US Job Growth Stagnates

Zero jobs added for August! The US economy slammed into a wall in August. The non-farm payroll was the first concrete data to confirm the weak economic survey figures the past month. Political infighting over the budget and mounting fear of a default in Europe had taken a toll on consumer and business confidence prompting a severe market sell-off in August.

With jobs growth slowing, financial markets wobbling, the odds of a US recession has increased dramatically. After all, the economy only expanded at a 1% pace in the second quarter following a 0.4% gain in the first three months of the year. Consumer spending grew 0.4%, the smallest increase since the last three months of 2009.



Source: WSJ



As can be seen from the middle chart above, this is one of the weakest job recoveries in the past three decades. Given that consumption accounts for 70% of the US economy, the poor employment situation at 58.2% constrains the broader recovery.

All eyes are now on policymakers. Mr. Obama will address the nation on Thursday. He will likely focus his speech on jobs and housing. But a new stimulus is certainly out of the question after the fiasco in Congress last month just to extend the debt ceiling. Without further fiscal means, Obama should forget about grand programmes in government-led jobs creation at this stage and instead focus on government-private sector initiatives which will help small businesses access capital, grow and hire people.

That leaves the ball in the Fed’s court. At the recently concluded Fed powwow at Jackson Hole, Mr. Bernanke did not exude a sense of urgency to initiate further monetary stimulus. His reticence underscores two points in our view. First, he doesn’t want to raise too much expectations as he probably knows his tools and financial power are now limited. Second, there are tensions within the FOMC. The Fed's unprecedented decision at its August meeting to keep short-term rates at near-zero levels until 2013 led to three dissents from Fed governors.

But with zero jobs added in August, we expect the Fed will announce another round of stimulus at the September FOMC on 20-Sep, or perhaps even before. This will likely take the form of manipulating the yield curve by pushing down long-term interest rates while keeping short rates steady (aka “Operation Twist”). The Fed will engineer this by changing the composition of assets on its balance sheet rather than expanding its size as it had done in the previous two rounds of quantitative easing (QE). This involves selling off bonds of shorter maturities and switching into longer dated ones.

How does this help the economy? Apart from generating the so-called wealth effect from rising asset prices, the idea of Operation Twist is that the lower long-term interest rates would drive further business investments and housing demand.

Will it be effective? QE1 and QE2 both generated massive gains in asset markets. Not just in equities but also commodities. But sadly, it hasn’t done much for the actual real economy. The problem is not just about the level of interest rates but rather a clear lack of incentives for lenders to lend and borrowers to borrow. Banks are still nursing their balance sheets after the devastation from the 2008/9 global financial crisis and consumers lack confidence to spend because of job insecurity. Companies facing an uncertain future, protect their profits by slashing jobs and moving investments to emerging economies where there is still growth.

Still, we expect Mr. Bernanke to continue trying. Bernanke got the nickname "Helicopter Ben" from a speech in 2002, in which he proclaimed that deflation was a real worry and that if he had to, he would fly around the country dropping $100 bills from helicopters. Unfortunately, he had been dropping bills on a semi-dysfunctional Wall Street and Congress. Perhaps, that explains his reticence. In his speech at Jackson Hole, he stated that most of the tools that could be used to increase growth are “outside the province of the central bank” – in effect putting the ball back into Congress’ court.

While this policy helplessness is worrying, we believe the Fed’s coming action if implemented correctly (by explicitly targeting a long bond rate just like it does now with the Fed funds rate) should be sufficient to stabilise the fragile markets in the near term.

But until we see policy traction on the real economy, we will continue to re-allocate at the margin into Gold, Asian currencies, bonds and stocks if you have the appetite. I know I sound like a broken recorder on this strategy but like in the proverb – “in the land of the blind, the one-eyed man is king” – Asia does sound like the one-eyed man at the moment.