JOB NUMBERS | May Unemployment 13.3% (16.3%?)

June 5, 2020—Total nonfarm payroll employment rose 2.5 million in May, and the unemployment rate declined to 13.3 percent, the U.S. Bureau of Labor Statistics reported this morning.

However, the BLS includes a note by BLS Commissioner Beach noting that some misclassification occurred, making the unemployment number as reported 3 percentage points lower than it would otherwise have been:

If the workers who were recorded as employed but absent from work due to "other reasons" (over and above the number absent for other reasons in a typical May) had been classified as unemployed on temporary layoff, the overall unemployment rate would have been about 3 percentage points higher than reported (on a not seasonally adjusted basis). Additional information is available online at www.bls.gov/cps/employment-situation-covid19-faq-may-2020.pdf.

(June 6 —See WaPo story, 11 am.)

The principal unemployment rate (U-3) is lower than many economists expected. The BLS warned in a May correction that because its survey is a sample of households during a specific period, unemployment claims data will not necessarily match up to the unemployment numbers. However, the BLS also reports different unemployment rates using a range of definitions.  U-6 is the broadest definition, taking into account those marginally attached to the labor force, including total employed part time for economic reasons. This rate was 20.7 percent, more in line with economists' expectations.

Forecasts had been for as high as 25 percent. The unemployment rate was 25 percent (or a smidgeon above) at its peak in the Great Depression. This rate occurred in the early months of 1933. Most economic observers dismiss the idea that we are in a Depression, because they expect the economy to recover quickly as soon as coronavirus cases level off or a vaccine is developed that would allow the public to resume a normal life.

But the following are examples of people who have gone on record as fearing that the May 2020 unemployment number announced this morning could be as high as 25 percent:

• Fed Chairman Jay Powell.
• Treasury Secretary Steve Mnuchin.
• Goldman Sachs.
• Forbes Magazine's Chuck Jones.

One of the backdrops to this was a 48 percent increase in bankruptcies in May.

Consensus: 20 percent. Most commentators, if they gave a projected unemployment number, were close to CNN's Anneken Tappe, who thought the rate will be most likely about 20 percent. Which is bad enough, and off the April chart.

To understand what is happening, behind the unemployment number itself, look at U-6 as well as U-3. U-6 is 20.7 percent. It includes people who are not in the unemployment numbers because they are marginally attached to the labor force or are employed part time for economic reasons.

Measure	Apr.   2019	Feb. 2020	Mar. 2020	Apr. 2020	May 2020
U-3 Total unemployed, as a percent of the civilian labor force (official unemployment rate)	3.6	3.5	4.4	14.7	13.3
U-6 Total unemployed, plus all persons marginally attached to the labor force, plus total employed part time for economic reasons, as a percent of the civilian labor force plus all persons marginally attached to the labor force	7.3	7.0	8.7	22.8	20.7

The number that is ordinarily reported is U-3. In 1933, that was the only number available. But U-6 provides details (insofar as any sample of 50,000 households in the U.S. economy can provide details) of people who are neither employed nor unemployed, an interesting group of potential workers.

The level of U-6 unemployment is important to look at because of the number of Americans who are on the Payroll Protection Plan and other special programs that are keeping workers off the unemployment rolls.

(Hat tip to Dr. Jurgen Brauer, Geoffrey Hilton and Dr. Farid Heydarpour for their assistance with this post!)

MAY UNEMPLOYMENT ESTIMATES | 20-25%

U.S. Unemployment Rate, 2010-2020. The May figure was predicted to be
off the chart. [P.S. The BLS actually reports it defined to 13.3 percent.]

Thursday, June 4, 2020—Forecasters like to say: "If you give a number, don't give a date. If you give a date, don't give a number." Especially, don't forecast a definite number the day before.

However, these rules have been broken recently by people who have strong views about what the U.S. unemployment number will be at 8:30 a.m. tomorrow.

Scariest number: 25 percent. The unemployment rate of 25 percent is scary, because that (or a smidgeon above) was the peak unemployment of the Great Depression. This rate occurred in the early months of 1933. That would meet one test for deciding whether we are in the Second Great Recession or the Second Great Depression. The economy (GDP) has already suffered two quarters of decline. The big question is whether the decline will continue, which would be likely if the country saw a second wave of coronavirus infections. Paul Krugman has argued that to call what we are in a Depression would require four quarters of decline.

Most economic observers dismiss the idea that we are in a Depression, because they expect the economy to recover quickly as soon as coronavirus cases level off or a vaccine is developed that would allow the public to resume a normal life.

The following are examples of people who have gone on record as fearing that the May 2020 unemployment number to be announced in the morning will be as high as 25 percent:

• Fed Chairman Jay Powell (and it's his job to be well informed on the topic).
• Treasury Secretary Steve Mnuchin.
• Goldman Sachs.
• Forbes Magazine's Chuck Jones.

Consensus: 20 percent. Most commentators, if they give a projected unemployment number, are like CNN's Anneken Tappe, who thinks the rate will be most likely about 20 percent. Which is bad enough, and off the chart above. We will know soon enough.

To understand what is happening, behind the unemployment number itself, I recommend looking at U-6 as well as U-3.

Measure	Apr. 2019	Feb. 2020	Mar. 2020	Apr. 2020	May 2020
U-3 Total unemployed, as a percent of the civilian labor force (official unemployment rate)	3.6	3.5	4.4	14.7	20%? 25%?
U-6 Total unemployed, plus all persons marginally attached to the labor force, plus total employed part time for economic reasons, as a percent of the civilian labor force plus all persons marginally attached to the labor force	7.3	7.0	8.7	22.8	25%? 30%?

The number that is ordinarily reported is U-3. In 1933, that was the only number available. But U-6 provides details (insofar as any sample of 50,000 households in the U.S. economy can provide details) of people who are neither employed nor unemployed, an interesting group of potential workers.

The level of U-6 unemployment will bear careful watching because of the number of Americans who are on the Payroll Protection Plan and other special programs that obscure the data.

(Hat tip to Dr. Jurgen Brauer, Geoffrey Hilton and Dr. Farid Heydarpour for their assistance with this post.) 

STOCK BUYBACKS | More Risk, Inequality

Source: IZA

Business school professors have struggled with aligning the interests of executives with the interests of company owners. It is called the principal-agent problem, or just agency problem.

One idea is stock options to reward executives when stock prices rise.

It was understood from the inception of this idea that some long-run measure of stock price should be used to avoid gaming the system. Michael Porter recommended that stock options not be exercisable for five years, and then only a portion of them. Those who have studied abuses of stock options recommend that averages of stock prices over several years be used, again to avoid executives goosing the stock price at a benchmark date.

Sadly, those who have studied the impact of executive pay on stock prices find a negative correlation. CEOs with pay that is in the top ten percent of their industry and size have stock prices that are 13 percent lower for periods up to five years after the high payouts.

OMG, how could this happen? Researchers try to explain the result as overconfidence among executives or investor mistrust of companies with high-paid executives, or both.

Now a better explanation of what has been going on has been presented by none other than Goldman Sachs. A big problems seems to lie in the timing of stock buybacks. What is going on is worrisome both from a social welfare standpoint and from the perspective of managing risks in financial markets. I am grateful to Wall Street on Parade for noting the implications.

In a research note, Goldman has compared the buybacks at high market multiples to the bad investment decisions that corporations made in this arena just before the market crash of 2008:

[B]uybacks peaked in 2007 (34 percent of cash spent) and troughed in 2009 (13 percent). Firms should focus on M&A [mergers and acquisitions] rather than pursue buybacks at a time when P/E [price to earnings] multiples are so high.

Goldman's alert picks up on an article in the September Harvard Business Review, “Profits Without Prosperity”, which notes that corporate profits have been high, but are not being passed through to workers or shareholders. The culprit? Stock buybacks.

[I]n the short term buybacks drive up stock prices. In 2012 the 500 highest-paid executives named in proxy statements of U.S. public companies received, on average, $30.3 million each; 42 percent of their compensation came from stock options and 41 percent from stock awards. By increasing the demand for a company’s shares, open-market buybacks automatically lift its stock price, even if only temporarily, and can enable the company to hit quarterly earnings per share (EPS) targets.

In calendar years 2006-2013, says Birinyi Associates, public corporations authorized $4.14 trillion in buybacks of their U.S.-traded stock; in 2013 alone, corporations borrowed $782 billion, almost all paid out for stock buybacks.

In the past two quarters, investment-grade non-financial companies have issued $366 billion in bonds; the $195 billion of bonds they sold in the first quarter alone was a record.  Companies in the S&P 500 are expected to spend more than $1 trillion - two-thirds of their cash - buying back stocks and repaying dividends in 2015.

The debt these companies are taking on to prop up their stock prices is diverting corporate profits to executive pay, and is making the U.S. stock market a riskier place to put money. It helps explain why the prosperity at the top of the companies is not trickling down to the 99 percent very fast.

Ben Stein's Challenge to Goldman

Ben Stein in Sunday's NY Times ("The Long and Short of It at Goldman Sachs"), citing Allan Sloan's research for Fortune magazine, questions the propriety of Goldman Sachs for underwriting securities representing packages of loans while simultaneously short-selling mortgage indexes. He also takes to task Goldman economist Jan Hatzius for being excessively bearish on mortgages and suspects that Goldman’s short-sellers were grateful for the negative portrait.

Stein is questioning the view that the marketplace is divorced from morality, that if someone wants to buy junk from Goldman's securitization window at overly high prices, caveat emptor and good for Goldman. Similarly, if Goldman's traders want to bet that the housing market is going to continue to deteriorate (in part because of a collapse of mortgage values), and they place their bets accordingly, what's wrong with that? If Goldman’s bets win at both windows, tant mieux.

This point of view depends, I think, on there being a wall between departments of the kind that the Glass-Steagall Act of 1933 put up between banking activities and investment banking. Is there anything left of this wall? Is there a limit on communication between Goldman's traders and the people who investigate the quality of loans that they packaged?

On the issue of excessive bearishness, I believe the Case-Shiller indexes and various estimates of the total likely losses support the idea that downward adjustment in housing markets has considerably further to go. But several factors will come into play to mitigate the impact:
1. Continuing infusion of central bank liquidity in the United States and overseas.
2. Local judicial insistence on seeing all the documents before permitting foreclosures, such as is occurring with Deutsche Bank in Ohio, which may slow down foreclosures - at some cost to the credibility of the American mortgage system.
3. Industry association assistance to mayors to help with easing the impact of foreclosures on local communities (the Mortgage Bankers are providing $100 per foreclosure to create a foreclosure database and to fund counseling services).
4. Congressional action to freeze interest rates on ARM interest rates that are about to float up.