Friday, June 26, 2009

Unemployment:The weakiest side of the expected economic recovery

While the financial markets wonder about the shape the economic recovery would look like, it seems to be a fact that employment will be behind the fundamentals. To get a better approach to the problem, let assume some scenarios for the expected economic recovery:
a.- From a “L” shaped recession ,to a kind of “F” shaped recovery. It is unlikely that the whole industrialized world and the emerging economies, will get their economies back on truck at the same speed .There will be differences because global economy have an heterogeneity economic framework, rather than an homogeneous one.
In fact, The European union policy framework was not designed to cope with recessions, but to keep low inflation level based on fiscal discipline. Thus ,its response to the current financial crisis was strongly influenced by it, as an institutional constraint. Quite on the contrary to the others economies, and the text book recipe, of no constraint to fight recessions, the Europe Union had to cope with a very strong one .The implications of this constraint ?: it will settle down the pace of the economic recovery in the industrialized world which will be slower ,and it will make its own recession longer. Thus, It seems probably that there will be two levels for the economic recovery. One on top (the USA , the emerging economies , and east Asia ) higher, than the other on the bottom (European Union, and Japan).(Data: IMF and World Bank)
b.- Unemployment will stay high for a longer period than otherwise , because manufacture production drops (15% in industrial countries and 10% in developing world ,excluding China , since august 2008) ,will be hard to get back quickly, while capital flows become more scarce,(pushing down investment) and hard to be available for cash flow firms requirements . All of these means higher uncertainty for better job creation rates. Besides , people already expect to be unemployed longer than previously thought , so they prefer to drop out from the labour force until labour conditions improves. Thus , current unemployment, do not reflect the real magnitude of the fall in the job creation rates , such that when it starts again to be positive , more than expected people will suddenly arise asking for those initially scarce jobs available ,adding up additional pressures to the level unemployment ,even with the recovery under way.-
On the other hand , in industrial economies most of employment is concentrated on services sector, which follow production. Following new orders for higher production , it arises the role of logistics and support services(transportation, banking , insurance, data network management, legal requirement ,and the like). Therefore, the expansionary fiscal policy , although capable to sustain job creation, it will be unable to cope completely with the kind of more specialized jobs which characterized services in the private sector, so it will be hard to get a total neutralization of job losses.-
c.- The output gap will not be enough to get the whole information about the real conditions for the economic recovery, as long as the financial conditions for borrowing and lending do not improve. Thus , the financial gap arising from the expected demand for cash flow, and the supply of it available , somehow it makes the potential output not far away from the current output , leaving without productive prospect ,a lot more than the available resources.-

Friday, June 12, 2009

Commodity price increases: A threat to global economy recovery?

While Oil prices have increased by 75% since February 2009, wheat and others agricultural products , have increased by 25% as well .Thus the question about whether it is a trend for higher future prices, signalling a better chance of robust economic recovery , or it is the result of the speculative forces about these goods, as long as they might be used as financial assets, deserves to be considered . Either way, it is a factor which might complicate the prospect for economic recovery. In almost all recent economic downturn, commodities prices have decreased.-
The fact that input prices increases add cost pressures upon the production process, firms have no other alternative than to pass over such cost pressures to prices. But in a scenario of global economic contraction, such option is not feasible to be applied without risking further deterioration on consumer confidence and consumption, because of a deterioration in their purchasing power .
As the economy get closer to its stabilization point, the next step concern not only about the health of banking system , but also about the way Central Banks will get back all the money they have added into the economy to prevent inflation. Just in case those commodity prices , goes along to even higher level ,inflationary pressures might force Central banks to act sooner than expected, risking to abort the economic recovery or at least to make it weaker.
Thus , there is the chance that the expected economic recovery might be either further delayed or deliberately weakened , because of inflationary expectations which Central bank should cope with, implementing the necessary corrective policy action, which means reversing the expansionary mood following September 2008.Markets expectations about it, reflects already in the long term interest rate which are starting to increase.
This situation imply a new challenge for policy makers. The magnitude of fiscal expansion, means that sooner or later it will be important for those countries which have followed that path ,to consider the way to finance it .Thus , tax increases are also on the sight once the recovery is well on its way toward a more stable output path.-
It seems that it will not easy to move the economy forward, while it faces simultaneously supply side pressures, tax increases at sight, and inflationary expectations on the rise. All of these has led to anticipate that even with a recovery in process, unemployment rates will stay high for a longer period than expected .-
How to cope with all of these forces?. Whether the problem so far has been to shape better expectations, once this expectations improves , the key variable will be Central Bank credibility to keep inflationary expectations ,under control. With over capacity still available, supply side pressures would have for the moment a ceiling .Therefore an important proportion of those prices increases, might be due to speculative reasons. Tax increases are well ahead of schedule, as long as economic growth will also improve the tax payment and collection . The proper timing to take the right economic policy decisions, will become crucial in the months ahead.-