The labor market has been one of the hardest hits sectors of the
real economy during the credit crisis, with the same trend being seen
in most of the developed economies. The history of labor reporting
indicates that employment is a lagging indicator of economic health,
where the slack in an economy has to be absorbed before growth then
leads to hiring. With that accepted, there is still a lot of pain in
the labor market that is not being tempered by economic expansion
From the very low and stable unemployment rates seen during the 2006
and 2007 period, the last two years have created major pain in the
labor market. In particular the U.S. the unemployment rate that has
more than doubled since 2006, from approximately 4.5%, to October’s
The pace at which the labor market deteriorated in the U.S. is
startling and reflects the shock that both the business environment and
household had to bear. The deterioration was observed in the Euro-area
although not to the same percentage degree, where the unemployment rate
moved from 7% in late 2007 to 9.7%, while in the U.K. the rate moved
from 5.5% to 7.8%. in the same period.
Interestingly, Australia, which has avoided the eye of the credit
crisis storm with great success, is the only country among the
developed economies in which the unemployment rate at the beginning of
2006 was higher than the one recorded in September 2009; 5.3% versus
4.8%. The huge discrepancy between the Australian economy and the
others explains the stellar performance of the Australian dollar since
the beginning of 2009.
Current forecasts for the U.S. unemployment rate run as high as 13%,
which would mean that it is heading towards the highest level since
World War II. Accepting the lagging indicator effect, that still leaves
question marks over U.S. growth rates compared to the major economies,
with the chart showing a dramatic surge in U.S. rates since mid-2008,
compared to the controlled moves higher in the U.K. and Euro-zone. The
U.S. unemployment outlook far exceeds estimates for percentage changes
of the other regions.
Much of the U.S. economy is based on consumer spending, which is
directly linked to the unemployment rate. With the number of unemployed
on the rise, consumption will reduce due to financial insecurity. The
reverse also holds true, when the unemployment rate is falling or
stabilizing, consumer spending tends to rise.
The direct effect of the surging unemployment rate/declining
spending is reflected in the GDP numbers. The formula of the GDP is
very straightforward: Y=C+I+G+(X-M)
Where Y = GDP
C = Private Consumption
I = Investments
G = Government Spending
X = Exports
M = Imports
The largest component of GDP is private consumption, which is
directly influenced by consumer’s spending behavior. In the third
quarter, the private consumption component was almost 60% of U.S.GDP,
but the single largest gain came from the "Motor vehicles and parts”,
which was responsible for a third of GDP’s total advance. However, this
surge was almost entirely triggered by the "Cash for Clunkers” program,
which will not be there during the next few quarters.
That is another reason that the unemployment lagging indicator
theory may be flawed in the current environment; GDP growth was
synthetic, it came from a one-off stimulus that lowered inventory, but
did not increase output demands, and therefore created no forward
momentum that will impact near-term employment reads.
With the biggest component of GDP likely to have a very slow growth
rate ahead due the move higher in the unemployment rate, the recovery
of the U.S. economy will be slow and bumpy. Nothing really new there,
but a slow recovery means that interest rates will not be able to go
higher any time soon. That is something that will increase the U.S.
dollar outflows towards the higher yielding emerging economies, which
right now seem in a very strong position compared to the ‘developed’
world in regard to potential for growth.
The employment reads may lag, but at these high rates the U.S.
economy still has a lot of slack to pick up, and that may lead to the
equity markets stalling as questions are raised as to how companies
will find ways to pretty-up their books for January earnings. It
certainly does not look possible for profit to come from top-line
growth, the hiring rate tells us that, and therefore we are back to
looking at the unemployment read as maybe more of an economic litmus
test than many would initially think.
If forward earnings and unemployment questions remain unanswered and
a drop in equities happens, the main beneficiary will the dollar
against the Gbp, Eur, Chf, Cad, as risk aversion sends trade desks to
bonds and U.S. Treasuries. That in turn will take the heat out of
commodity prices, and with gold bought recently as a Usd weakness play
rather than an inflation hedge, the precious metal may easily test
$1000 an ounce.
It is to the emerging markets that we will look for growth and
expansion, and to those economies to take their rightful place at the
table of global leaders. The emerging economies look to have learned
their lessons from the Asian and Latin American crisis points of the
1990’s, and are now in a strong position to print growth and expansion
ahead of the developed world.
The unemployment rate is now the focus of more attention than has
been the norm, and rightfully so because it may actually become a
leading indicator in the unique economic and trading arena that the
credit crisis has carved.
Written by TheLFB Trade Team, © 2007-2008 LFB Services, LLC. All rights reserved. http://www.TheLFB-Forex.com