Kudlow, Bernanke, and the Jobs Report

In a special Saturday edition, today we take a look at some of the discussion that took place yesterday on CNBC Sqawk Box, after the employment data was released.

As tradition dictates, Larry Kudlow gets up early and heads into the studio for an appearance on Squawk Box when the employment report is released on the first Friday of the month. In what is now a Pavlovian response to the announcement of the report's headline numbers, Larry gushes for the camera and waxes about how great it is to be an American (what he probably really means is how great it is to be a "rich" American, because surely he knows little about what it's like to support a median family on a median income).

So how can this be a Pavlovian response? Doesn't the employment data vary from month to month - some months good, some months bad?

Well, since the household data and the establishment data always seem to go in opposite directions, all one has to do is pick the report that is favorable for the current month. As happened yesterday, the unemployment rate (from the household survey) always seems to go down when the non-farm payrolls number (from the establishment survey) disappoints, and vice-versa. So there's always a reason to cheer.

Let's go right to the initial reaction:

Larry Kudlow: Fabulous. Fabulous. That is such a bullish report, because it shows good growth, but it doesn't show anything that is too hot, or too cold, or any of this nonsense that the market ... that's a great report with upward revisions. What a great country this is!

Mark Haines: Did I tell you? Did I tell you? Consensus is 200, it comes in at 146 - it's a great report!

We like Mark Haines.

As noted before, he's the only one who seems to do much thinking or ask interesting questions - everyone else just wants to cheer. While everyone does backslaps and high-fives, Mark Haines brings some needed sobriety to the discussion, as evidenced by this exchange with Mark Zandi, Chief Economist at Economy.com.

Mark Zandi: It's a healthy report, a good solid number, 150K, right down the economy's strike zone. I think that suggests that we've got enough jobs to keep consumers spending and it's not too many jobs to cause a problem with the Federal Reserve or for bond investors. So, just a good all around number.

Kudlow: You go Mark! You go! You nailed it! Don't stop!

Haines: Wait, wait, wait, wait, wait. Excuse me, excuse me. I'm sorry, I'm not trying to be a wet blanket here, but I must say that I've noticed that over the course of the last six to nine months, the bar is being gradually lowered. Now all of a sudden ... 150 used to be just enough to keep pace with the growth in the labor force and therefore not a great number. Now we've transitioned into 150 is a great number.

Zandi: This is the reason. Six to twelve months ago, the job market was not at its capacity. We were worried about a job market that had a lot of slack - we needed more jobs to get that slack absorbed. But now we're at a point where we don’t' need that kind of job growth, in fact 150K is just about right.

Haines: Why not, because we haven't ... Steve just laid out the numbers ... we've been averaging about 180 - that certainly wasn’t enough to take the slack out ...

Kudlow: No. No. But some people Mark, some people believe that the break even point for job creation is down around a hundred thousand or so, like 98,000 - shifting demographics, early retirement.

Haines: I'm just a little concerned about what seems to be some revisionism going on here.

Kudlow: I just want to make a point that you’re knocking off here 150-160-170 thousand averages over a twelve-month period. This to me is the sweet spot of economic growth and we have nothing to fear, except to fear the Fed because I don't know what the heck they're looking at raising rates willy nilly. But in terms of the economy, don't you agree that a 5.0% unemployment rate is one heck of an achievement? There's 20 million unemployed in Europe, and they all want to give money to Africa instead of solving their own problems. I mean this is a heck of an achievement for this country.

Wow! It probably wasn't wise to let that worldview slip, Larry, especially on national TV...

About an hour later Ben Bernanke, possible future Federal Reserve Chairman and current chairman of the White House Council of Economic Advisers also appeared on the broadcast. He is first asked to comment on the employment data:

Bernanke: Well, we had 146,000 net new jobs in June, we had 44,000 upward revision, so we really have 190,000 new jobs. A 181,000 average so far this year, I think we're right on track for 2 million new jobs in '05. It looks good to us.

So, let's remember this - next time there is a downward revision to the previous month's data, let's see if Ben subtracts those revisions and announces a new monthly total.

The discussion then turns to the "conundrum" of why long term interest rates remain so low, and possible explanations:

Bernanke: I've talked about something called the global saving glut. I think that countries outside the United States, including a lot of emerging market economies, have a lot of savings that they are trying to find a place to put, and right now there's not enough high return options out there and it's driving real interest rates down. So, I think that's a pattern that might persist for a while.

Well, from the looks of recent treasury flow data, it appears that Asians, at least, have had enough treasuries for the time being - it now looks like they are more inclined to use this excess savings to buy things like Unocal, Maytag, and other companies with fine American brand names, but a poor bottom line.

Then to everyone's favorite subject, housing:

Bernanke: Unquestionably housing prices are up quite a bit. I think it's important to note that fundamentals are also very strong. We've got a growing economy, jobs, incomes. We've got very low mortgage rates. We've got demographics supporting housing growth. We've got restricted supply in some places. So, it's certainly understandable that prices would go up some. I don't know whether prices are exactly where they should be, but I think it's fair to say that much of what's happened is supported by the strength of the economy.

With half of all new jobs being housing related, it's also fair to say that much of what's happened regarding the strength of the economy is supported by housing prices.

Somehow that doesn't sound as good as what Ben said.

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A Topping Pattern

Normally on the first Friday of the month, when the Department of Labor releases the employment data for the previous month, we would first check to see what Larry Kudlow has been writing over at the National Review, and then maybe talk about something interesting that was said during his once-a-month, special appearance on CNBC Squawk Box.

But, after yesterday's events, that sort of thing just doesn't seem that important right now.

Instead, we will take a look at a few charts based on Department of Labor Statistics data, and try to shed some new light on the seasonal adjustments and birth-death model adjustments that many people continue to talk about.

The first chart is the one that gets the most attention on the first Friday of the month - the seasonally adjusted, monthly change in total non-farm payrolls. This chart looked truly horrid back in 2001 and 2002, but since mid-2003, when the numbers transitioned from negative to positive there has been a steady stream of positive numbers, which continues to this day.


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The seasonally adjusted data includes both the seasonal adjustment and the infamous birth/death model adjustment - these two adjustments have been the source of much speculation and consternation in recent years.

The corresponding raw data, or "not seasonally adjusted data", is shown below. Looking at this it is clear why seasonal adjustments are required - there are significant cutbacks in January, after the holiday shopping season, and in the summer for yearly plant shutdowns. Except for these times of the year, typical monthly job creation is between 500,000 and 1 million, rather than the 100,000 to 200,000 headline number typically heard on the evening news.


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The not seasonally adjusted data includes the birth death/death adjustment as part of the total. In January of each year, when a revision is performed for the preceding year, the actual state unemployment insurance data replaces the estimates generated by the birth/death model. There have been some massive revisions in the past, but last year the revision was comparatively small, indicating that the estimates have improved.

The seasonally adjusted total payroll data, the cumulative total number of people employed in the U.S., has been rising gradually over the last couple years. Not as fast as in previous "recoveries", and barely keeping pace with population growth, but clearly rising.


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While the not seasonally adjusted data also has the same general trend it is much more, shall we say, seasonal.


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Now to the interesting charts and to the point of this exercise.

Plotting the year-over-year change in payrolls since the beginning of 2003 shows a clear topping pattern over the last seven or eight months. Now in the neighborhood of 2 million new jobs, year-over-year, that works out to be around 170,000 new jobs per month, on average, which is roughly the number of new jobs necessary to keep pace with the rising population.


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[Note: Year-over-year comparisons were also found to be particularly revealing when examining Southern California real estate prices, as we found here - by the way, the $600,000 condo with the convenient public transportation which was linked to in this post is still for sale - now only $565,000.]

It is comforting to see that the year-over-year seasonally adjusted and not seasonally adjusted curves look basically the same, as they should, since using year-over-year comparisons is essentially the same as seasonally adjusting.


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So, today's number came in at 146,000, and there were some slight upward revisions to the two previous months. What does that mean? Are things good, bad, or indifferent in the labor market?

Considering that almost half of all new jobs created in the last year were real estate related, and with all the talk of housing bubbles, this topping pattern should be cause for some concern. What happens if the number of real estate related jobs fails to increase at the rate to which we have become accustomed? Or worse, what happens if housing related employment falls? What sector takes up the slack, just to maintain pace with the increase in population?

Those questions will be answered over the next year.

And what about the birth/death model adjustments? According to the Labor Department's description of the birth/death model calculations, it may not be very reliable during "economic turning points":

The most significant potential drawback to this or any model-based approach is that time series modeling assumes a predictable continuation of historical patterns and relationships and therefore is likely to have some difficulty producing reliable estimates at economic turning points or during periods when there are sudden changes in trend. BLS will continue researching alternative model-based techniques for the net birth/death component; it is likely to remain as the most problematic part of the estimation process.

The birth/death model adjustment accounts for roughly 20% of the reported "not seasonally adjusted" data - could there be a massive revision next January due to a turning point that may be indicated by the topping pattern?

We'll find out in six months.

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London Bombings

No post today - too much awful news from London.
Your best online news source today is probably BBC News.
Also, see Guardian Unlimited and TimesOnline.
General Glut has some comments here.

Sorry there's nothing here - I haven't yet figured out how to selectively turn on and off the "Continue reading" thingy.

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We'll Need Helmets, not Hairshirts

The mainstream financial media is increasingly questioning Federal Reserve monetary policy in light of the now almost universally acknowledged housing bubble, mammoth trade deficit, and various other related imbalances in the global economy.

The developing pattern of discussion about monetary policy is eerily reminiscent of the early stages of the discussion about the housing bubble, which seemed to progress through three stages:

1. Lots of talk about whether or not a problem exists
2. General acceptance that there really is a problem
3. Predicting how unpleasant things might get
   

While the housing bubble discussion is now clearly entering stage three, discussion of monetary policy seems to have entered phase one.

Wall Street Journal

A few weeks back Greg Ip of the Wall Street Journal noted that since the stock bubble burst in 2000, and after three years of super-low interest rates and lending standards, Americans have borrowed and spent like never before, creating a self-reinforcing housing boom which has added nicely to both growth and employment statistics. With the debt and current account statistics even more impressive than either growth or employment, Greg wonders how things will ever get back to normal:

"How that will happen puts the nation in uncharted territory: After treating a bubble, how does the Fed manage the side effects of its medicine?"

The phrase "uncharted territory" seems to be popping up all over the place these days - Mr. Greenspan has used this term during recent congressional testimony and Fed Governor Kohn also seems to be fond of it.

In this same article, in what is destined to be a classic analogy for this era, a former Fed governor expands on the uncharted territory theme:

"We have done what no other economy has done before, faced with an asset bubble," Lawrence Lindsey, a former Fed governor and Bush adviser, said at a recent panel discussion. Praising both the Fed's rate cuts and Mr. Bush's tax cuts, he said, "This is the first time in history the textbook economic policy... was used, and worked. The problem is, once you finish that chapter of the economic texts, you turn the page and the page is blank -- because no one has gone through the process before."

The textbook that Mr. Lindsey is of course referring to is the one that was written after the Great Depression. The one that says, if we are ever dumb enough to create another asset bubble like the one that preceded the Great Depression, let's inject enough money and credit into the system to make the magnitude of the bust much smaller than the magnitude of the boom.

That's where the textbook ends ... that's where we are today.

BusinessWeek

Then last week, Chris Farrell at BusinessWeek penned Alan Greenspan: Wizard or Villian?, in which he apparently decided that the best defense was a good offense - that "hairshirt" economics, responsible for the extended pain and suffering of the Great Depression, should be acknowledged then again discredited, lest this thinking work its way back into mainstream economics.

[Now, admittedly, "villain" is a hard word to spell correctly, but you'd think that someone would have hit the spell check button at some point in the process of publishing this article. Newsflash - 8/19/05 - the spelling has been corrected]

Greenspan-bashing is now a popular sport among the Masters of the Universe. One reason is that the 10-year economic expansion came to an end with the dot-com bust and subsequent recession. Another is that Greenspan's standing as the Monetary Maestro was overhyped during the halcyon days of the 1990s. And the third is that his fallibility as a central banker was overemphasized during the difficult economy of the early 2000s. Indeed, the chairman has never recovered his lost luster.

Still, Greenspan's most vehement critics go a lot further than this. They're convinced he has made a fundamental error as a monetary economist. Call it the hairshirt economists vs. the cheerleaders for growth-is-good. The hairshirts believe that for the health of the economy to be restored, the inevitable bust that follows a boom must be at least as great as the boom. Growth proponents -- and there's none greater than Greenspan -- believe that it's better to limit the fallout of a bust and get the economy growing again as quickly as possible.

So, here's one of the many people in the world who think that the biggest stock market boom in history is logically followed by the shallowest recession in recent history - that more easy money is the solution to all problems, even if these problems were caused by easy money.

Lunches really can be free and perpetual motion machines do exist.

While it seems to have worked this way for a while, it is not likely to work this way forever. When this theory was adopted, the U.S. was an emerging economy on the gold standard. Today we are an aging economy with a fiat currency - with a government that has made promises that it can't keep, while at the same time engaging in wars it can't pay for and assuring its populace that its standard of living will endure.

In fact, the real possibility that this is a fundamentally flawed theory that is looking more fundamentally flawed every day, is quite possibly why more and more economists seem to doubting the chief economist, Mr. Greenspan.

Look, Greenspan is no economic wizard, and this isn't a brief to defend him. He has made his share of mistakes, although fewer than many of his predecessors. But what should be defended is the economics of growth. Remember, not all price increases are bubbles, booms are better than busts, and growth is not only good -- it's vital.

So, a growth-is-good cheerleader, knowing full well that the head cheerleader is perplexed by the situation in which he finds himself, pleads for more growth - to just pump more money into the system.

It's always worked before - anything but hairshirts.

Like the housing bubble a year or two ago, the monetary policy problem is now being talked about a lot - clearly we are in stage one of the process outlined earlier. When monetary policy becomes generally accepted as being a problem, we will have progressed to stage two, at which time a few people may begin speculating about how unpleasant things might get.

Then many will realize that ... we'll need helmets, not hairshirts.

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From Boston to Baltimore

If you live in Baltimore, Maryland and are considering purchasing real estate in that area, and if you happened to catch last Thursday's ABCNews Nightline about the real estate boom, how might that influence your real estate purchase decision making process?

The Nightline piece began:

Tonight on Nightline, the red-hot real estate market goes worldwide. From Baltimore to the Balkans, it seems everyone is playing, but not everyone is winning. Is it a bubble that's beginning to leak?

This may have come as a shock to people living in Baltimore - maybe the first time that "Baltimore" and "bubble" were heard in the same sentence.

There were a total of four segments in all. First the New Hampshire real estate market, then another excellent animation about mortgage lending by Robert Krulwich, a look at how the British are buying Bulgarian real estate, and finally this segment about the Baltimore real estate market:

Chris Bury: We once thought of buying a home as a long-term investment. Now many see it as a short-term gold mine. But can this housing craze lead to real economic revival in some of our toughest neighborhoods? We found an example very close to here, less than forty miles up the road, in Baltimore, Maryland.

[Voice of auctioneer]

Chris Bury: In Baltimore, the bidding at real estate auctions has been this fast and furious for nearly a year. On this day, auctioneer Paul Cooper sells 25 properties in less than three hours. Prices from $50,000 to $450,000. Many of the buyers come from out of town. They're smelling bargains and sensing a revival in the city on the rebound.

Bostoner #1: I'm from Boston and I came to Baltimore because I heard so much about the properties.

Bostoner #2: I went there looking for another investment property, and we found it. We ended up paying below our expectations.

Auctioneer: A lot of the out-of-towners have an insatiable appetite. They're just coming down here, they're buying, they're doing renovations ...

That's right, Baltimore is a new real estate hot spot. New Englanders are coming south to help revitalize neighborhoods in Baltimore - investing in the future of a once great city that has had some hard times lately. The city officials see the goodness in all of this - homes in blighted areas being passed into the hands of American investors only to be repaired and restored to improve the neighborhood. The segment concludes:

Chris Bury: For now city officials and investors alike seem unafraid that the Baltimore market, like so many others could be a bubble waiting to burst.

Investor #1: I don't see a bubble. I see prices continuing to climb at a steady rate.

Investor #2: I would say it's a bubble in cities like San Francisco, L.A., New York. I think Baltimore is a little bit of a forgotten gem.

So, You're Living in Baltimore

So, you're living in Baltimore and thinking about buying real estate in Baltimore. It sounds like a safe thing to do based on this piece - the auctioneer is happy, the mayor is happy, the Boston investors are happy. There's been lots of talk about housing bubbles - in places like California and New York, but this is Baltimore.

Does the local paper have anything to say about the recent popularity of the Baltimore real estate market? Well, as a matter of fact, this Baltimore Sun article provides an in depth look at the many pros and cons associated with the issue. It breaks down as roughly two parts caution and one part cautious optimism and includes these notes:

Two out of three houses sold in Baltimore this year have been snapped up by people who don't intend to live in them, an unusually high amount of investor activity that is adding fuel to the city's efforts to revive itself - but could endanger housing values down the road.

There have also never been so many out-of-town investors, Baltimoreans say. Buyers from high-price areas such as Washington, New York and California are plunking down their dollars here because prices are appreciating quickly but are still comparatively cheap. Many area residents are jumping into the fray, too.

And some are selling to each other - dozens of houses have turned over more than once this year, generally from investor to investor.

It looks like the real estate bubble might be coming to Baltimore, but it's not there yet. So, if you live in Baltimore, and were considering a home purchase, what do you do?

Look North

Maybe it would be wise to check out some real estate stories in the newspapers where the out-of-town investors are coming from - just to get a better understanding of the big picture. Let's see, in New Hampshire, the experts are no longer questioning the existence of a bubble, but rather trying to predict it's timing and impact:

New Hampshire's red-hot real estate market is expected to enter a painful price-correction period starting in late 2006 that economists say will result in a 5 percent to 25 percent drop in home prices.

Many economists believe house prices will continue to rise until then. But, New Hampshire economist Russell Thibeault of Applied Economic Research in Laconia said most recent home sales figures for New Hampshire over the past five months indicate prices have stopped increasing. Prices have leveled off, he said.

Same thing in Boston:

Experts say the first signs of a bursting housing bubble include falling sales volume, but prices that don't immediately drop - exactly what the latest Massachusetts real estate figures show.

The Massachusetts Association of Realtors reported yesterday that single-family house sales fell 11.1 percent in May - the worst decline in almost three years. But median house-sale prices actually rose 6.2 percent, hitting $359,900.

Look Around You

So, what does all this mean to Baltimoreans and why are Bostoners investing here?

According to National Association of Realtors, the year-over-year increase in home prices, as of the end of the first quarter of 2005, was 14.8% in Boston but only 6.9% in Baltimore. The Boston area has experienced year-over-year increases of over 20% for the last several years and has been designated a bubble area by everyone except the local realtors - everyone pretty much accepts that the boom is over.

This helps to explain why the guys from Boston are investing in Baltimore real estate and not Boston real estate. In Boston, real estate prices are now very high and there is little hope of additional significant appreciation.

Is that a good thing? Investors leaving mature bubbles in their home states to invest in other parts of the country? If the Boston to Baltimore connection is anything like the California to Arizona connection or the California to Nevada connection, prices in Baltimore are going up!

Just think of the potential gains between now and the time that Baltimore is called a bubble. Just think of what might come after that.

So what does it all mean if you live in Baltimore?

If your business is real estate speculation, it sounds like now is the time to act. There may be another year or so of price increases before they start talking about a bubble bursting in Baltimore - just think how far prices could rise!

If, on the other hand, you are looking for a place to call home for the next ten years or so, you should realize that you are competing with wild-eyed speculators who are most likely going to drive up prices in your area, then move on to some other area as soon as prices moderate in Baltimore.

If you are buying for the long term, you may feel good about your purchase a year from now - you may think of yourself as having made a shrewd investment decision as your home equity rises. But, how about in two years or five years - will there be any speculators around to support price levels then?

Will real estate stories in the Baltimore newspapers next year sound like the real estate stories in the New England newspapers today?

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