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>From Businessweek's current issue:
NOVEMBER 19, 2001
BUSINESS OUTLOOK
U.S.: The Bad News on Unemployment Will Only Get Worse
Companies will rely on productivity, not new jobs, to make gains next
year
About this time last year, people were asking: How low will the
unemployment rate go? Now, after shrinking to a three-decade low of
3.9% in September, 2000, the jobless rate's half-point surge last
month, to 5.4%, in the wake of the September 11 terrorist attacks is
provoking just the opposite question: How high will it go?
The consensus view is that unemployment will peak at about 6% by
around the middle of next year, assuming the recession is a
relatively mild one. However, some economists are beginning to think
a 6% peak rate might be too optimistic, even in a mild downturn.
Worse still, once the unemployment rate peaks, it is likely to remain
at that level for most, if not all, of 2002.
To be sure, movements in the jobless rate lag behind changes in
economic activity and so are somewhat backward-looking. But
unemployment news greatly affects consumer confidence and attitudes
toward spending. A rise in the jobless rate to 6% would put nearly 1
million more people out of work on top of the 2.2 million newly
unemployed in just the past year. Every increase of a tenth of a
percentage point above 6% would add about another 140,000 to the
jobless rolls.
The Federal Reserve wants to cap that rise. On Nov. 6, the Fed went
for a half-point cut in interest rates, instead of a quarter-point,
citing "heightened uncertainty and a deterioration in business
conditions both here and abroad." The Fed dropped the overnight
federal funds rate to a 40-year low of 2% and the discount rate to
1.5%, and its statement left the door wide open for further moves.
However, policymakers are likely to go back to quarter-point cuts
from now on, given that reductions this year now total a huge 4.5
points.
MORE CUTS WILL PROBABLY BE NEEDED to turn around the economy and the
labor markets. The Labor Dept.'s jobs data show that the unemployment
rate has jumped nearly a full percentage point in only four months,
and monthly payrolls plunged 415,000 in October. Private payrolls
have been shrinking since last March (chart), indicating only part of
the October layoffs were related to the September 11 attacks.
Other data point to a sharp deterioration in job prospects. Help-
wanted advertising in September newspapers hit an 18-year low, and
the weekly level of new claims for jobless benefits is consistent
with monthly payroll losses in the 200,000 to 250,000 range. Some of
the labor-market weakness reflects the initial shock of the September
11 events. But two months later, claims show no sign of drifting
lower as yet.
Of course, rising jobless claims are typical in a recession, but a
top worry in the outlook is how next year's economic performance will
play out in the labor markets. Mild recessions usually generate
moderate recoveries. So even though real gross domestic product is
expected to rise next year, it may not grow fast enough to lift
payrolls quickly.
More important, one key downside of the New Economy is that a high-
productivity economy requires strong growth in order to utilize fully
all available labor and machines. The U.S. appears able to maintain a
growth rate of 3% or more without worrying about rising inflation.
That also means the U.S. must grow at least 3% just to keep the
unemployment rate stable. And it will have to grow considerably
quicker than that pace in order to bring the jobless rate down.
PRODUCTIVITY HAS HELD UP remarkably well in this recession. Despite
the third-quarter drop in real GDP, output per hour last quarter rose
at a sturdy 2.7% annual rate from the second quarter. During the past
year, productivity has grown 1.9%, even though real GDP increased
only 0.8% (chart). Companies responded to weaker demand by cutting
back hours and jobs, leading to the increase in the jobless rate.
Moreover, productivity may well rise again in the fourth quarter.
Hours worked began this quarter nearly 4% below their third-quarter
average, measured at an annual rate of decline, about a percentage
point faster than they fell in the third quarter. If, for example,
real GDP contracts 2% this quarter--as many economists expect--then
productivity would grow 2%.
By the end of this year, the economy's yearly growth rate will have
slowed from more than 5% to less than zero, a swing of some 5.5
percentage points. But the pace of productivity will likely have
slipped by only half that much. In the past, an economic slowdown of
the same magnitude would have generated a much sharper drop-off in
productivity growth. And productivity is set to pick up as the
economy recovers.
This strongly suggests that, although some of the late 1990s
productivity surge was transitory, the economy is also retaining some
of the gains. The Fed noted in its Nov. 6 rate statement that, while
the shift in resources to enhance security after September 11 may
restrain productivity advances for a while, "the long-term prospects
for productivity growth and the economy remain favorable," and they
will reassert themselves.
THE PROBLEM FOR NEXT YEAR is that businesses desperate to rebuild
their profit margins will concentrate on lifting productivity gains
rather than hiring new workers. The same thing happened after the
1990-91 recession, in the so-called jobless recovery. The
unemployment rate rose a full percentage point during the year
following the end of the recession.
Cost-cutting efforts by businesses are starting to show up in the
form of shorter hours, less overtime, and slower wage growth. In
October, the workweek shrank almost a half-hour from a year earlier
(chart). Factory overtime hit a nine-year low. Hourly pay for
production workers barely rose from September. All those cutbacks
mean slower income growth, a downtrend that will continue in coming
months as the upper hand in the labor markets shifts back to
companies and away from workers.
One plus from slack labor demand will be lower inflation next year.
Add in cheaper energy and falling nonenergy import prices, and 2002
could mark the first year of outright price stability since the
1960s. That will boost household buying power and give the Fed
considerable room to nudge interest rates even lower.
Low inflation also explains much of the recent rally in the bond
market. Clearly, some of the favorable reaction in long-dated
Treasuries outside of the 30-year bond was overdone, a reaction to
the government's elimination of its 30-year offering. But this year's
drop in long-term rates is based on the sound fundamental of falling
inflation expectations.
Of course, increased buying power due to lower rates and inflation
won't do consumers much good if they don't have a job or if they are
worried about losing the one they have. This will be the first New
Economy recession, and while productivity growth is likely to hold up
surprisingly well, those gains may well come at a heavy cost to
workers.
By James C. Cooper & Kathleen Madigan
AND
ECONOMIC FALLOUT
Return of the Payroll Scrooge
If they aren't cutting the payroll, they're definitely cutting salary
increases. Half of all companies, from all economic sectors, are
likely to give smaller raises to white-collar employees next year--if
any at all, compensation consultants say.
Already, a study by Mercer Consulting finds, 19% of 340 companies
surveyed have cut next year's raises, from 4.5% on average to 3%.
Another 11% will postpone raises by six months; 2% will scrap raises
altogether, with no cost-of-living increases either. And, says
Mercer's Steven Gross, who did the study, there'll be more of this if
the economy stays soft. "This is definitely a white-collar
recession," he says.
It'll be worse at the top. Compensation for CEOs is likely to fall by
a third. Consultant Frederick Cook says that's appropriate, since
CEOs are well-paid in good times: "Now is not the time to treat execs
better. If anything, you might freeze the execs and give 2% to the
rest."
By Kimberly Weisul
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