June 2009 is seen by many as the end of the Great Recession. Strong growth in GDP following massive monetary and fiscal responses to the collapse in housing and financial markets meant that the economy was on the mend. Yet a year later, 1.1 million fewer people are working, and the unemployment rate is stuck at 9.5%. Worse still, more than one million individuals have left the job market since April. If these individuals had not quit looking for work, the nation’s unemployment rate this morning would have been 10.3%. The fraction of teens at work has hit a record low, with just 25% of 16-to-19 year olds working this summer.
The jobs report released Aug. 6 has a lot of political and economic significance.
Economically, this means that concerns among fiscal and monetary leaders may now seriously focus in the threats of a deflation. Deflation is the opposite of inflation insofar as it is characterized by reductions in the aggregate level of prices and wages in the economy. See economist John Makin of the American Enterprise Institute for a discussion of this.
One critical manifestation of the deflationary pressure exerted by this downturn has been the sharp decline in housing prices. The worst effects of deflation occur when consumers and firms expect prices to decline. With an expectation of future price declines, they delay consumption and investment activities and instead hold on to cash to capture a better bargain down the road. This means that consumption slows and savings increase as firms hold on to cash. Both families and firms seek to pay-off debt and cash becomes king. Why? Because unlike inflation, where a dollar can buy less tomorrow than today, with deflation, a dollar buys more tomorrow than today. Today’s poor jobs report means that the monetary authorities may seek to expand the monetary base in an effort to keep interest rates and the cost of borrowing low. Congress and the president may be more likely look to finance another round of stimulus of some type, including what some have called a back-door stimulus, that will hopefully have a stronger jobs component to it than the last round of “STIM” that didn’t seem to do much in the private sector.
Politically, there are only two more jobs reports between now and the midterm elections in November. Expectations for GDP growth in the second half of this year have been curtailed and are at a level that would fail to generate a sufficient number of jobs to reduce the overall unemployment rate. Along with the weak showing in the new jobs report, this suggests a diminished likelihood of a quick turnaround in the labor market in time for November. Those candidates for congressional and statewide positions who needed a stronger labor market environment didn’t get the summer of recovery promised by Joe Biden, but they may get a fall from grace this autumn.
Deflation is very bad news for those parts of the higher education system that rely on debt financing. As the risks of deflation become more vivid, colleges that hold lots of debt will be forced to pay off those loans with more valuable dollars that could crowd out other kinds of spending. Students may be more reluctant to take on debt to finance school in a weak labor market where employment prospects are poor and nominal wages are declining. The Chronicle of Higher Education’s recent article on student loan defaults is a scary reminder of the limits of student debt.