Written by: Samira Fatehyar
Introduction
A lot of data has recently become available making me want to talk about the bulk of it in this blog post. The unemployment numbers were astonishing, but a 14.7% unemployment rate doesn’t quite tell the whole story. Industrial production output in the US fell by a record number due to the Covid-19 pandemic economic impact. We also learned last week that the Federal Reserve started buying high-yield ETFs in order to lessen the economic fallout. In my opinion, this was a terrible move, but I’ll explain more about it later.
On a side note, I ended up visiting San Francisco this past week and wanted to share a bit of what I saw and my thoughts on the impending homeless population increase.
Unemployment
The unemployment numbers made a lot of news when it came out. 14.7%, the largest number we have seen since the Great Depression. Over 36 million Americans have filed for unemployment benefits. To put it into perspective, we saw a maximum unemployment number during the Great Recession of 10% by October 2009. Although it’s true that the Great Depression saw an unemployment rate of 24.9% at its peak, if things continue the way they are going, it won’t be long until we see similar numbers. It’s important to point out that the official numbers we were given do not tell the whole story. To understand unemployment numbers, we need to look at Table 1 below.
Table 1
Unemployment Data from the BLS.
https://www.bls.gov/news.release/pdf/empsit.pdf
U3 Vs. U6
Looking at Table 1, there is a lot of different numbers to look at. The two most important categories are U3 which is 14.7% and U6 which is 22.8%. The U3 category is the official unemployment rate the Bureau of Labor Statistics (BLS) announces every month. U3 only takes into account those who are unemployed and have been searching for work for the past 27 weeks. Many economists, including myself, believe that the U6 unemployment rate gives a much clearer picture of the unemployment rate. U6 takes into account everything in U3 including those working part time even though they have expressed the desire to find full time work, those who have gone back to school, those underemployed, those who have become disabled, and those who have become discouraged. U6 also includes those who have remained unemployed past 27 weeks. A reason the BLS chooses to use U3 as the official unemployment number may be more psychological than anything else. Mathematically, U6 will always be higher than U3, so why scare people and cause panic? Using the lower number may not cause as much panic. I think that’s the reason why they use U3 instead of U6, but my guess is as good as any.
Now, looking at a 22.8% unemployment rate shows how dire the situation has become. Although we have seen the beginning of states reopening, we need to remember that a lot of these jobs won’t just magically appear again.
Case study: the Food industry
As a macroeconomist, I tend to look at each data set in order to understand the bigger picture. The big talk has been surrounding the restaurant industry and their survivability rate. OpenTable recently projected that about 25% of restaurants will not come back. Every 1 in 4 restaurants will not come back, let that sink in. This figure shocked me, so I wanted to look deeper. Let’s look at how much money the restaurant and food industry brings in as a percentage of total GDP. Graph 1 below illustrates this.
Graph 1
Food sectors as a percentage of total GDP from 2010 to 2019
https://apps.bea.gov/iTable/iTable.cfm?ReqID=51&step=1
The food industry makes up around 5% of total GDP per year. I included all the sectors above as they all relate to the supply chain of the food industry. Taking 2019 as an example, total US GDP was $21.43 trillion which means the food industry made $1.09 trillion. That’s quite a lot of money. Now if we look at how many people are employed in this industry, we’ll be able to analyze the human impact this has. Graphs 2 and 3, below, illustrate this best.
Graph 2
All Employees for Accommodations and Food Services, Seasonally Adjusted from April 2010 to April 2020
https://data.bls.gov/timeseries/CES7072000001?amp%253bdata_tool=XGtable&output_view=data&include_graphs=true
Graph 2 shows the number of people employed in the accommodation and food services sector. Although April numbers are preliminary for both graphs it shows the dramatic decline in those employed in this sector. According to preliminary numbers, March 2020 saw 13,920,600 people employed to April 2020 which saw a massive decrease to just 7,590,000 people employed. That is about a 55% decrease in those employed.
Graph 3
Unemployment Rate for Accommodation and Food Services, Seasonally Adjusted from April 2010 to April 2020
https://data.bls.gov/timeseries/LNU04034256?amp%253bdata_tool=XGtable&output_view=data&include_graphs=true
Looking at Graph 3, we see a similar story to the shock in the system. According to the BLS, March 2020 saw an unemployment rate of 7.9% in this sector that skyrocketed to 37.3% in April 2020. Of course, this is expected in this industry as many restaurants closed during this time and are slowly easing their way back into reopening, although many not at full capacity.
The point of showing all of this data is to illustrate the major shock that happened in the food industry and that it will be awhile until we get back up to the employment numbers we were looking at prior to the Covid-19 pandemic. It’ll be interesting to see 2020 GDP numbers and how it relates to the food industry’s percentage share.
Grocery Food Price Increase
A big story that many people have been asking me about is the increase in grocery food prices. The Economic Research Service from of the USDA puts together CPI numbers for food to analyze price changes and come up with their own forecast. Table 2, below, summarizes their findings.
Table 2
Changes in Consumer Food Price Indexes, 2017 through 2020
https://www.ers.usda.gov/data-products/food-price-outlook/
Taking a look at the top of the chart, we see the category of Food Away from Home. This represents all restaurant purchases and how their prices have changed. From Feb. 2020 to Mar. 2020 there was only a 0.2% increase in price, but when looking on year over year data it shows an interesting increase of 3%.
Looking at food at home data, we see a lot of interesting changes. The one that stands out the most is the prediction of egg prices increasing by 6-7%; looking further we see an interesting pattern including a -1.6% year over year but a 3.2% increase from the year to date average of 2019 to 2020. So we can conclude that egg prices tend to jump around quite a bit. The USDA’s ERS is also expecting an increase in pork prices to be about 1-2% and other meats besides beef, veal, and poultry to increase by 2-3%.
On the upside, fresh fruit and vegetables are expected to decrease in price anywhere from 0.5% to 2%. But we should keep in mind that all food prices as an aggregates has increased by 1.9% since last year. I do expect this number to increase. I was looking at meat prices on Costco.com and came upon some meat selling for $320 for 6lbs of beef; that’s about $53.33/lb which is just astonishing. Hopefully we see a decrease, but like I mentioned in my last post, we probably will not.
Production Output
On May 15th, production numbers were released and they were not good. Industrial production fell by 11.2% in April, the most since the beginning of the index that started in 1919. In addition to this, we saw several other numbers fall drastically due to the Covid-19 pandemic. Table 3, below, shows summary of industrial production released by the Board of Governors of the Federal Reserve System.
Table 3
Summary of Industrial Production
https://www.federalreserve.gov/releases/g17/current/default.htm
It should be noted that the percent change seen in April are preliminary numbers, but they are still hard to swallow. Every single market group saw a decline in production. Consumer goods fell by 11.7%, while manufacturing saw a 13.7% decline.
In its report, the Fed also mentioned that there was more than a 70% decline in production for motor vehicles and parts. Due to this, the annual rate of vehicle production declined to 70,000 units as opposed to where it is usually at, 11 million units. This is, of course, due to the closure of several factories, but the momentum to get everything up and running again will take time. Unlike other countries, companies in the US tend to layoff their workforce to cut costs immediately. A better option would be what Germany does which keeps their workforce at limited hours and a fraction of their salary with the guarantee that when things start picking back up they will have their jobs. This leads to much faster output than having to re-hire and train new employees while having to endure a steep learning curve with a definite increase in monetary costs.
Federal Reserve Update
There have been many headlines in the last week regarding the move the Federal Reserve made to start buying high-yield ETFs. Now, I’m first going to explain what an ETF is.
An ETF is short for an exchange traded fund. An ETF is basically a basket of securities traded on an exchange. An ETF can be solely or a mixture of stocks, bonds, and/or commodities.
So now that we know what ETFs are, we need to establish how we got to this point where the Federal Reserve believes it’s a good idea to buy them. When the beginning of the economic impact of the Covid-19 pandemic happened, many investors started selling their corporate bonds (as well as corporate bond ETFs) en masse. This then lead to corporations not having the ability to issue bonds to raise capital. Even if they were able to, it would have been at a very high interest rate. The most startling fact in all of this was that about 50% of these corporations could not even last 2 months with the amount of net cash they had on hand without being able to access credit or revenue. So this was not only a liquidity issue but a solvency issue as well, which I touched on in my last blog post.
In order to save these corporations, the Federal Reserve is now buying ETFs filled with corporate bonds. This means that these corporation can now pay back the debt at very low interest rates as opposed to the higher interest rates they would usually have. It should be noted that the ETFs they are buying also includes high yield ETFs which are usually referred to as junk bonds because they are not investment grade. By allowing these corporations to do this, it is the hope of the Federal Reserve that these businesses will survive and be able to hire the many unemployed workers back again.
Graph 4, below, shows that a rally occurred on the news of the Fed buying corporate bonds to then also including the purchase of junk-grade corporate bonds.
Graph 4
Illustration of the news of the Fed buying bonds and junk bonds.
https://www.ft.com/content/19e47570-ba23-4929-988e-9b5f468b20d5
So what exactly is the problem with this? The problem is two-fold. One of the major problems is the rise in moral hazard. I’ve touched on this before, but I’d like to touch on it again because it’s so important. These corporations will feel like they will always have a safety net to help bail them out during bad times, so there is no incentive for them to act responsibly. Again, we are setting a very dangerous precedent in this country that prides itself on free markets.
The second problem is that of free markets and competition. A well respected former professor of mine, Dr. Clemens Kownatzki from Pepperdine University, was talking about this problem during a Zoom discussion last week which I found very insightful because it also helped me connect the dots in some other ways. He mentioned that our market functions are no longer working and that when there is an effort to never let companies fail, the market is not letting excellence prevail. By doing this, it is definitely helping markets stay afloat, but again, if there is no incentive to be smart in business then what type of future do we have to look forward to?
One thing that always gets me is documentaries done in the 70’s and 80’s is the VERY long list of airlines I have never heard of because they know longer exist. For one reason or another, they went out of business. I can tell you that in the US, the airlines that were around when I was little are still around today. Maybe it is truly due to good business practices, but a part of me wonders why all those previous airlines failed but the ones I know are still around. I know that the airline giants in the US have been complained about time and time again but nothing rarely gets done about these complaints; ie high baggage fees, shrinking economy seats, the list goes on. Granted, the barrier to entry is extremely high, as airplanes are not cheap, but a part of me wonders if there is truly an oligopoly in place and with the economic bailout they received if there will ever be a new airline that comes around to compete with these giants. One can only wonder.
San Francisco and Homelessness
This past week, I had to go for a routine orthopedic check-up in San Francisco. Driving from Reno to San Francisco, during normal times, takes about 4-5 hours depending on traffic. Due to the shelter-in-place orders that are continuing in California, it took me about 3 hours. The roads were significantly empty and it felt somewhat eery. The famous Bay Bridge was almost empty and San Francisco within itself had the hallmarks of a ghost town.
San Francisco in normal times has quite a massive homeless population. Many of the homeless look like they haven’t had a “normal” life for months if not years. They are usually wearing torn clothing, unshaven, and smell as they have not have been able to shower for a long time. This time was different. I saw “normal” looking people in nice brand name tents camping out on the streets. The income disparity in San Francisco has never looked so vast before. Don’t get me wrong, it was already bad, but now… it’s much worse and I didn’t even think it could get worse. Things were already on the edge financially for many and this pandemic has made many fall over that edge. With no safety net, it makes one wonder what’s next to come.
The rise in the use of food banks in this country is astronomical and unfortunately the CEO of Feeding America, Claire Babineaux-Fontenot, believes this is just the beginning. As donations to these food banks continue to decline and food prices continue to rise, there is definitely going to be a more dire problem ahead.
Concluding Remarks
I’ve been asked many times, are we in a recession? The necessary conditions that need to be met to say that we are in a recession is to have two consecutive quarters of negative GDP growth. This of course is arbitrary, but to keep it consistent with previous recessions, we will keep this definition. Will we see negative GDP growth for the second quarter of 2020? Most likely. So are we in a recession? Yes.
I wish I had better news to share with you all, but I feel like it is my obligation to let as many people as I know about the data that I’ve been researching and looking at. My predictions may be wrong, and believe me, I hope they are, but there is nothing wrong with preparing for the worst than being blindsided by reality.
See you all in two weeks! Share this blog with anyone who you think may benefit from reading it! Stay safe and healthy!