Are We in a Recession?

On Friday, the Labor Department reports employment data for the month of May. The data will help us determine, once and for all, whether the economic slowdown that began in the fourth quarter of last year is actually a recession. Gross domestic product registered modest growth during the first quarter, but that figure was elevated because of a large buildup of inventories. Because inventory accumulation exceeded GDP growth, final sales of goods and services actually fell. This explains employers' pessimism and the decrease in jobs each month since January. Job losses, in turn, are pushing down household disposable income and consumer spending, and that might send second-quarter GDP growth into negative territory. Retailers, auto companies and other manufacturers are clearing out unwanted supplies at discounted prices. If payroll jobs decline for a fifth straight month in May, it will be hard to deny that the economy is in a modern recession, a period of malaise and protracted angst--lethargic growth interrupted by periods of contraction--of difficult-to-predict duration. The recession that ate into 2000 and 2001 featured three quarters of negative growth interrupted by three positive quarters, followed by five more quarters of sub-par growth. Right now, the economy seems headed into a similar pattern. Unlike post-World War II recessions, the current malaise is caused by the fallout from falling home values, as well as a crisis of confidence among fixed-income investors, such as insurance companies and pension funds, in the integrity and solvency of the major Wall Street banks. The rapid decline in the market value of mortgage-backed bonds issued by these banks--and erosion in the balance sheets of the major banks caused by the declining value of unsold bonds on their books--represents a modern-day run on the banks. This has required the Fed to lend the banks sums totaling about 4% of GDP. A job report documenting further loses indicates that problems in the financial sector are damaging the economy in lasting ways that will take many months to repair. The Bush administration predictably advises people to stay calm, but apathy toward prompt movement to repair damage in the banking sector has made credit more difficult to obtain for many sound businesses. Even as the Federal Reserve cuts interest rates and pumps the banks' coffers, business loans are contracting and layoffs are escalating across the economy. In Friday's employment report, the crucial data to watch are: Jobs Creation: On May 2, the Labor Department reported the economy lost 20,000 payroll jobs in April, after losing an average of 80,000 jobs each of the previous three months. In addition, retail sales, durable goods orders and industrial production have been weak. Inventories of unsold goods are building, indicating the housing and credit crises are causing a general contraction that is spreading to most of the economy. The consensus forecast is that the economy lost 55,000 jobs in May. My published forecast is for a 50,000 decrease in employment. Unemployment: In April, unemployment was 5%, up from 4.8% in February. For May, this figure is expected to edge even higher, to 5.1%. Well-paying jobs have been evaporating in the manufacturing sector under the rush of imports from China and now in construction with the collapse of the housing market. Many adults, especially those in families with multiple wage earners, have decided it doesn't pay to work and are sitting out until a new president is in the White House. Private Sector Payrolls: In April, government employment expanded by 9,000 even though overall payroll jobs contracted by 80,000. But failing tax revenues are already crimping state and local budgets, and state and municipal employment is expected to drop beginning in July. That's because it is difficult for the public sector to continue expanding if its tax base--the private sector economy--is contracting. Construction and Manufacturing: In April, construction lost 61,000 jobs and manufacturing lost 46,000 jobs. Over the last 97 months manufacturing has shed 3.7 million jobs.
What does that mean? Historically, construction and manufacturing offer workers with only a high school diploma the best pay, benefits and opportunities for skill attainment and advancement. Troubles in these industries push ordinary workers into retailing, hospitality and other industries, where pay often lags. These phenomena at are the heart of middle-class and blue-collar discontent coloring the economic debate in the presidential campaign. The growing trade deficit with China and other Asian exporters is a key factor. Were the trade deficit cut in half, manufacturing would recoup at least 2 million of those jobs, U.S. growth would exceed 3.5% a year, household savings performance would improve and borrowing from foreigners and the federal budget deficit would decline. Sadly, Treasury Secretary Henry Paulson, in a recent speech to the Economics Club of Chicago, expressed the view that the employment situation in manufacturing is healthy. He characterized as protectionist substantive efforts to redress exchange rate problems with China that were proposed by critics of the Bush administration in Congress. With such apathy from the administration and contempt expressed by Paulson for those who differ with him on appropriate tactics, it is a small wonder that blue collar workers and their unions question the efficacy of U.S. trade policy.
The trade deficit and other structural problems, like runaway oil prices, are further hampering prospects for employment growth. Unfortunately, the Bush administration's responses to these problems have been tepid and, in effect, encouraged pessimism among consumers and businesses about the economic outlook. Consumers are reluctant to spend, and businesses have cut hiring and laid off workers. All of these factors have increased the likelihood of an employment death spiral--and a dim jobs report on Friday. Peter Morici is a professor at the University of Maryland School of Business and former chief economist at the U.S. International Trade Commission.