My print column this week as a refresh of last week’s post on the state of Georgia’s unemployment claims and the DoL’s efforts to process them. Since it was mostly a reformatting of what was already posted, I didn’t double post.
Instead, I’ll revert to a more blog style entry for our readers here, and cover something that I noticed a lot of people who should know better were saying at the end of last week. How was it on Friday that when a record number of unemployment claims were announced did the stock market rally so strongly, with the Dow increasing 456 points?
Social media has a way of minting professionals in any field, and over the next few months we’re going to see more than our share of economic experts who were formerly epidemiologists, having briefly set aside their credentials in law enforcement, nutrition, or the ability to explain why possums are beneficial.
My degrees are in economics, but other than having taught as an adjunct in the late nineties and early oughts, I’ve never pretended to be a practicing economist and won’t do so now. That said, there are some fundamentals of economics that those with no formal training need to understand in order to consume economic news, as well as to have your BS meter appropriately set during an election year. One of the most appropriate to understand is the difference between leading and lagging indicators.
Both of these terms apply to economic statistics. Some statistics explain where we’ve been, and those are the lagging indicators. Others have a predictive quality about where we might be going. Those are leading indicators.
Sometimes they live in harmony and allow us to believe that past performance is an indication of future results. When things begin to change, leading and lagging indicators begin to diverge. When we have a massive shock to the system, the two become completely unhinged to each other.
This is where we are now. Go back to the state’s revenue numbers for March. We were already beginning to shut down the state’s economy, but the revenue numbers were up year over year. Even as a lot of us began to shelter in place, most of us hadn’t really changed our spending behaviors in a major way.
The state continued to collect payroll tax withholdings, which also may lag a few weeks even as employers began to lay people off. Sales taxes continued to be remitted, again often reporting sales a week or a month old, even as stores began to close their doors.
We saw some of the same in April’s revenue numbers. Motor fuel taxes were largely unchanged even as traffic levels on Georgia highways dropped dramatically last month. Gas taxes are collected at the wholesale level, and the state pulled revenue from at least one major wholesaler after an audit showed the state was still owed money. Again, a past action that didn’t reflect current economic activity.
Policy makers will be looking at the lagging indicators to understand where we are/were, but it’s the leading indicators that are most helpful in where we’re going. The stock market really isn’t the best leading indicator to set policy, but it is somewhat an indicator of where participants feel like the economy is heading.
This point requires another reminder of economic basics, and that is one of assumptions. Economics is sometimes called “the dismal science”, but it’s not a pure science. There are no repeatable controlled experiments in economics that science requires. Instead, we have theories, and they are qualified by assumptions within these models.
One of the assumptions relevant here is that participants in any market have “rational expectations”. It is presumed that someone buying a stock thinks they will make money later, and those selling stocks either have better uses for the capital, and/or do not wish to lose money later.
Thus, markets – including the stock market – are more of a leading indicator because they represent a collection of expectations of future values. If the companies will be more valuable in the future, people will buy today in the hopes that their investments will be worth more in the future. If the majority of market participants believe companies will be worth less, markets will fall.
This brings us back to the nature of the conflicting unemployment report versus the stock market performance of a single day. The unemployment report was just that – a report. No one was surprised by the number. The market factored the damage in weeks ago, with the market going from a record high to a “bear market” – a decline of more than 20% – in a couple of weeks, also a record.
This was a response to the “shock” (an actual economics term) where an unexpected event changes all the assumptions and actual underlying economic activity. While there had been some fear of minimal impact of Covid-19 on our economy, the markets in February were comfortable with lagging indicators that showed record strength. More should probably have been paying attention to the corporate bond market, which was already showing signs of strain that would eventually show up in stocks and the actual day to day economy.
The stock market is increasing even as layoffs continue because it is looking through the current to the future. Markets (on average) believe many of these layoffs are temporary, and that the trillions the fed in injecting as liquidity into financial markets as well as the trillions of fiscal stimulus coming from Congress/The White House will have to go somewhere.
There’s also the benefit that many of the unemployed are getting more gross and net pay because of the $600 federal benefit than they were making when employed. The consumer sector of the U.S. economy is roughly 70% of total output, and the consumer entered this downturn strong. Now, some are even stronger despite not working. A lot of others are spending less while sheltering in place, and will have “pent up demand” to spend when they increase mobility in the weeks ahead.
A note of warning on the unemployment benefits. A lot of these same consumers stimulate the economy with tax refund checks during the first quarter of every year. Unemployment benefits are taxable, but no tax is being withheld. The boost the market is getting today may be taken back early next year, when instead of tax refunds stimulating the economy, a lot of folks are surprised to learn they have to write a check to the IRS.
A couple of quick caveats before exiting. The stock market is not the economy. It’s reflects a subset of the economy, but it doesn’t capture the full impact of Covid-19 on small business sector, which has fewer financing options to weather this storm than publicly traded companies do. I’ll save comment on the PPP program for another day.
Economic activity is measured in terms of GDP, but that’s the laggingist of lagging indicators. Economists agree we’re in a recession, but the definition is two consecutive quarters of declining economic activity. We won’t actually have this data until mid-summer, when most likely we’ll be growing again and thus out of recession. Even if not back to February levels of economic activity, Economic growth in Q3 will be measured from economic activity in Q2, where we should see the Covid induced trough.
Second caveat: I’m willing to entertain as much conversation in the comments as you like, provided it’s a direct question about economics or the path from where we are to where we need to be. Should you take this opportunity to tell me how bad the orange man is, or that everything would be fine if the socialists would just get out of the way, I’ll delete your comments because frankly, these bore me and I’m not going to waste my time or that of our readers so that you can affirm your beliefs in a feigning attempt at a question. Don’t go there.