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Morning Jay: Make No Mistake: the Economy Is Problematic for Obama

6:00 AM, Apr 6, 2011 • By JAY COST
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On top of all this, we have the Fed’s program of buying assets – typically referred to as quantitative easing. This is from Reuters last week:

The Federal Reserve's balance sheet grew to another record size in the latest week as the central bank bought more bonds in an effort to support the economy, Fed data released on Thursday showed.

The purchases were part of its $600 billion quantitative easing program, dubbed QE2, with the goal to stimulate investments and economic activity.

The balance sheet, a broad gauge of Fed lending to the financial system, expanded to $2.606 trillion in the week ended March 30 from $2.585 trillion the prior week.

So, the federal government and its central bank have taken on a massive, unprecedented project of fiscal and monetary stimulus – something that we all know is unsustainable over time – and what will be the result? According to Wells Fargo, we can expect an average growth rate of 2.5 percent in 2011 and 2.9 percent in 2012, both of which are well under the historical trend.

Not only that, but we have a recovery that average people are still not really participating in. Consider, for instance, the unemployment rate. The headline number showed downward movement last month, from 8.9 to 8.8 percent. However, unemployment is calculated in a somewhat counter-intuitive way. If you do not have a job and are not looking for one, you are counted as being out of the workforce, and therefore not unemployed!

To appreciate the effect this has on the unemployment rate, consider the following graph. It tracks the nominal unemployment rate (what the Bureau of Labor Statistics publishes every month) versus what I’d call the “shadow” rate. The shadow rate is calculated by assuming that a constant percentage of adults are actually in the workforce – 66.2 percent, to be precise, which is the average number during 2007.

Notice how the two lines mirror each other closely for most of the 2000s. This is because the labor force participation rate was pretty constant, right around 66.2 percent. Starting in the middle of 2009, however, the shadow rate zoomed past the nominal rate because the participation rate declined as people gave up looking. Today, the percentage of adults who are counted as being in the labor force is just 64.2 percent, the lowest since the mid-1980s

This will either be a political problem for the president, or a huge economic problem for the country. If people start returning to the work force, then the nominal number and the “shadow” number will move closer together, suggesting that the nominal number will tick up or remain flat for some time, and thus give the president some bad press. If that doesn’t happen, if the long-term result of this recession is a smaller labor force, then that is bad news for economic growth (sooner or later you need more workers for more output) as well as the deficit (how much in taxes do non-workers pay?).

Most voters, of course, are employed, meaning that their personal economic situation depends more on how much money they have in their pockets. This is often measured by “personal income per capita,” which has gone up since the bottom of the recession.

However, a big chunk of the subsequent improvement is due to those extraordinary government stimulus measures – like the extension of unemployment benefits and more people signing up for food stamps (see this graph for the detail on this trend – but beware that it is not for the faint of heart). Indeed, in 2007 (the last year before the recession), government transfer payments accounted for 14.2 percent of all personal income. In February of this year, they accounted for 17.8 percent.

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