T’was the week before Christmas and all through the house, not a creature was spending, not even your spouse; the stockings were hung by the chimney with flairs, in hopes that the Congress would supplement CARES.
And so, it appears that the economy continues to deteriorate as the Congress attempts to put together another stimulus without provisions for certain favored constituents of either party – much easier said than done. Nevertheless, it does appear that it will pass a “meager” $900 billion gift package (second largest emergency measure in history, larger than the Obama bailout of 12 years ago), certainly with more to come next year.
Unfortunately, the very policies advanced by the political elite are the ones that contribute to the growing level of income inequality. Such policies beget the conditions for social unrest.
Employment and the Economy
The week ending December 12th (which is the week the BLS’s employment surveys were taken) saw Initial Unemployment Claims (ICs) in the state programs rise to 956K, the highest level since the end of July. The IC’s in the temporary PUA programs were 455K, the highest level since the end of September. Together, the state and PUA programs totaled nearly 1.4 million. They were hovering at just over 1.0 million for most of October and November, so, clearly, a marked deterioration. You can see this in the table and chart below.
Look especially at the upticks on the right-hand side. And note, on the extreme left side, what is “normal,” i.e., pre-COVID, how far we are away from that, and how stagnant the progress on employment has been since August.
Worse, continuing employment claims remain above 20 million (see chart below), and that doesn’t include those who have exhausted their benefits or those who have simply given up (dropped-out; stopped looking).
In addition to the employment situation, we have seen an actual contraction in retail spending in November, with disappointing holiday sales in the important Black Friday-Cyber Monday period. Besides the current situation, we have the build-up of issues which will take quarters, if not years, to unwind, and will certainly have a significant impact on future economic growth. These include the share of homeowners in mortgage forbearance (5.5% as of early December), and, on top of that, a mortgage delinquency rate of 7.7%. At the end of November, 16 million people had not worked a single day in the last week and were relying on government assistance. I haven’t even mentioned those who are delinquent on their rent and will be subject to eviction when the moratoriums eventually end. And, if not evicted, then there is likely to be a “make-up” rent period; certainly not good for an economy 70% dependent on consumption.
Here are some recent Wall Street Journal headlines:
- “Coke Cuts 12% of U.S. Jobs…” (12/18/20, B1)
- “Jobless Claims Reach Three-Month High” (12/18/20, A2)
- “Shoppers Cut Back Spending as Covid Spreads” (12/17/20, A1)
On the positive side, the vaccines are here and now in distribution, and there is the expectation that some form of “normal” will return as the public receives them – perhaps sometime in Q2/21. While we may not return fully to the pre-virus “normal,” with a semblance of “herd immunity,” there won’t be any reasons to keep businesses closed. The fallout will be significant – all the jobs lost from the failed small businesses – but the economy will function again, perhaps even in a free-market format, and there will be economic growth again (but below potential).
The Specter of Money Printing
In the background of the current Congressional wrangling over the size of the “stimulus” and who gets what is the posturing over the Fed lending programs. The Republicans want to shut down the Fed’s lending spigot by removing CARES Act money and requiring renewed Congressional approval of the Treasury’s line of credit for the facilities. The Democrats want to leave the current CARES Act funding in place with the intent of lending to state and local governments without any renewed Congressional scrutiny.
While such wrangling is political in nature, it speaks to how far we have come to simply accept and even endorse more and more money creation. This is destined to have a real, and negative, impact on America’s future as the nanny state grows. And given the job destruction that has already occurred, reliance on hand-outs from government will be part-and-parcel of the economic landscape for the foreseeable future.
The financial markets not only love the money printing policies, they are now hooked on them. Remember the “taper tantrum” of 2013 when Treasury yields spiked and equity markets tanked when the Fed simply announced it was “tapering” its open market purchases? Remember, then Fed Chair Bernanke did another round of QE? Then, again, in 2018, when current Fed Chair Powell began “normalizing” interest rates, the strong stock and bond market reactions caused the now famous “Powell Pivot,” a complete turnaround in the direction and level of interest rates. Since then, this current Fed Chair apparently has accepted Modern Monetary Theory (MMT – a sovereign nation can print as much money as it wants, subject only to its “inflation” tolerance), and has subjugated the Fed’s Independence to the desires of the Congress (i.e., the pledge to monetize any-and-all deficit spending).
There are emerging trends which are critical to the economy’s future and financial market health.
Let’s start with how hooked the equity market is to easier and easier monetary/fiscal policies. Economic fundamentals don’t appear to matter anymore, nor do corporate cash flows, revenues, profits, or even the ability to pay debt service out of current cash flow (i.e., “zombies”). The chart below shows the relationship between the financial markets (S&P 500) and Fed Policy (M2). You can see how strong the relationship is from the chart. The correlation coefficient is .86. While we all know this intellectually, this chart tells us that those who hold financial assets, i.e., wealthier people, are the ones that benefit from such money creation policies. And while we don’t have “inflation” in the traditional sense of rising prices of goods and services, we do have very significant “asset inflation.” (Is the stock market higher, even in a recession? How about the value of your home(s)?)
The result of this is that “Income Inequality” has become a political issue. And, perhaps, it should be. The table below shows the share of the income pie earned by each 20% segment of earners from the highest 20% to the lowest. Note that since 1960, only the top 20% of earners have increased their share.
Share of Income by Quintiles (%)
Over the last 30 years, and since the Great Recession, the highest quintile earners’ share has risen rapidly at the expense of all the other 80%, i.e., the rich are getting richer. What has occurred during this time period? Easy money, and low interest rates. A continuation of perhaps the “easiest” money policy of all time has been promised by the Fed through at least 2023 (according to their official press releases, FOMC member statements, FOMC minutes, and their various exhibits).
The Gini Coefficient
There is a concept called the “Gini Coefficient” which measures income inequality. The higher the Gini Coefficient, the more skewed the income shares are to the higher earners. The chart below graphs the Gini Coefficient and M2 since 2000. As easy money has come to dominate the scene, as indicated by rapidly rising M2, so has income inequality. The correlation coefficient between M2 and Gini is a whopping .86. This shouldn’t be a surprise, as we have seen that M2 and the S&P 500 are also highly correlated. Easy money and a rising money supply cause asset inflation which benefits the higher income classes.
Wealth inequality appears to be a by-product of easy money government policy. In addition, there appears to be no end in sight for such easy money, deficit spending (supported by Fed debt monetization), and Fed lending to zombie companies.
Everyone knows that equities are “overvalued” from an historic and economic fundamental perspective. Low interest rates (0% cost of capital) etc. are used to “explain” that markets aren’t really overvalued and that “this time is different.” But we all know better. These “explanations” are market excuses to keep the party going, and the Fed has promised not to remove the spiked punch bowl anytime soon, and not before giving plenty of advance-warning. Markets may very well stay overvalued, especially if the monetary aggregates continue to grow and newly printed money has no place to find a home except in financial assets.
Meanwhile, income inequality continues to rise, and this recession, its continuation, and its aftermath, has been especially cruel to the lower wage/lower income earners. Income inequality has no place to go but up. In the past, such conditions have spawned social unrest.
Robert Barone, Ph.D.
December 21, 2020
Appendix: The Gini Coefficient has a .72 correlation to the S&P 500.
Robert Barone, Ph.D. is a Georgetown educated economist. He is a financial advisor at Four Star Wealth Advisors. www.fourstarwealth.com. He is nationally known for his writings and Robert’s storied career includes his having served as a Professor of Finance, a community bank CEO, and a Director and Chairman of the Federal Home Loan Bank of San Francisco. Robert is currently a Director of CSAA Insurance Company (the AAA brand) where he chairs the Finance and Investment Committee. Robert is the co-portfolio manager of the UVA Unconstrained Medium-Term Fixed Income ETF (FFIU).