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2009-11-08 BACK
The The Dow Hits 10,000 and Unemployment is 10%: What Gives?
The The Dow Hits 10,000 and Unemployment is 10%: What Gives? This article originally appeared in the Texarkana Gazette on November 8, 2009 Dr. Ed Bashaw, Dean, Texas A&M-Texarkana, College of Business On October 14 of this year the Dow Jones Industrial Average closed above 10,000 for the first time since October 3, 2008. This marks a positive milestone as the Dow had spiraled down from its record high of 14,164.53 on October 9, 2007 on its way to the bottom at 6,547.05 as recently as March 9, 2009. So, all is well with the U.S. economy, right? Not so fast. As I pen these words, the U.S. unemployment rate is predicted to hit 10% or better. What gives? How can the Dow surge so when unemployment continues to surge as well. In today's column I look at some explanations for this phenomena and what data I'm watching that will foretell both a rising Dow and a declining unemployment rate. ? The easiest explanation for a Dow at 10,000 and an unemployment rate at 10% is that the Dow was artificially high at 14,000 and too low at 6,500. The fundamental conditions didn't warrant either end of the Dow's continuum. This is partly reflected in the Dow's recent rise. What explains the other aspect? Keep reading. As you may know, the Dow is an index of 30 of the largest and most widely held public companies in the U.S. The Dow is considered to be a reflection of the U.S. and, to a degree, worldwide economies. It goes up or down based on the stock prices of these 30 companies. Individually, the Dow companies' stock value reflects actual current conditions and predicted future conditions. The Dow's recent rise is due to these companies' collective actions in the face of economic downturn (actual conditions) and the market's view of an improving overall economy (future conditions). ? What did these companies do in response to actual conditions? At about the same time they collectively made drastic cuts in operating costs (largely by trimming their workforce), cut their own production by drastically cutting their inventory levels, and saved short term cash flow by cutting or postponing borrowing to fund current projects. ? The result? In the short term these companies profit position was very positive. These companies' quarterly earnings announcements have been largely very positive the last six weeks or so. That's why we've seen strong increases lately in the Dow. The market is rewarding these companies for their short term decision making. As we'll discuss below, they now have cash flow to help them with their future performance. This, however, is for the short term. The long term health of our economy lies in having sufficient number of consumers who have the confidence and means to buy products and services they want and need. ? For consumers, data indicate that in the face of extreme uncertainty about their job and the economy have dramatically cut their personal spending levels. Less consumer spending means a higher savings rate. In fact, the U.S. savings rate has ballooned recently from a zero or negative one percent to a current rate of between five and seven percent. Long term this is a good thing, but in the short term it's not so good. ? I would expect a big jump in our economic output when four factors exist. First, the consumer sentiment levels must rise. This will lead to the second factor; consumers must be willing to spend their recently accumulated cash. Consumers who were not negatively affected by the high unemployment levels have higher levels of cash on hand because they have increased their savings rate and have postponed purchases. They will eventually be willing to spend that cash on hand. Third, companies must eventually be willing to make investments to take advantage of profitable opportunities. Companies, like consumers, have higher levels of cash on hand. At some point they will be willing to spend that cash. Finally, when consumer demand returns, companies will need to ramp up production to meet this demand. That will happen relatively quickly because of companies' reduced inventory levels. To meet the increased current demand they will need to hire again – and in a big way. These reduced inventory levels mean that companies will meet this demand by shipping recently produced products as opposed to products dusty from long term inventory. This is another plus for increasing employment. ? As most have read before, unemployment is a lagging economic indicator. This means that more people will be hired after the economy has improved. Unfortunately, most believe that the U.S. unemployment levels will rise above 10%. I'm looking at the average hours worked per week index that is tracked by the U.S. Census Bureau. In two key areas – construction and manufacturing – the index indicates that average hours worked per week is down 15% in construction and 25% in manufacturing compared to the same time period in 2002. Additionally, overtime hours worked is down and average hours worked per week is below the standard 40 hour work week. Companies won't hire until overtime hours increase and the average work week rises to well above 40 hours per week. It looks like from this indicator that unemployment is not going to get better in the short term. ? I'm also looking at the Consumer Sentiment Index from the University of Michigan. This is a measure of current conditions which reflect U.S. consumers' perception of their financial situation and whether it is currently a good time to buy big-ticket items such as a car and home. This functions well as a surrogate indicator of willingness to spend. The latest numbers show an improvement in sentiment. My guess is that this is a reflection of the governments "Cash for Clunkers" program and the incentive for first time home buyers. The next reading will be key because both of these programs will have concluded. I'm a fan of our economic system. Markets, when free of outside influences, respond in a way that fixes inefficiencies and rewards productive behaviors. The length of this recession is directly related to the degree and intensity of problems. While there are issues in the future we'll need to weather, history is on our side. ? Please email me at Edward.Bashaw@tamut.edu with your thoughts and comments. (Dr. Bashaw is the Dean of the College of Business at Texas A&M University-Texarkana)
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The The Dow Hits 10,000 and Unemployment is 10%: What Gives?
The The Dow Hits 10,000 and Unemployment is 10%: What Gives? This article originally appeared in the Texarkana Gazette on November 8, 2009 Dr. Ed Bashaw, Dean, Texas A&M-Texarkana, College of Business On October 14 of this year the Dow Jones Industrial Average closed above 10,000 for the first time since October 3, 2008. This marks a positive milestone as the Dow had spiraled down from its record high of 14,164.53 on October 9, 2007 on its way to the bottom at 6,547.05 as recently as March 9, 2009. So, all is well with the U.S. economy, right? Not so fast. As I pen these words, the U.S. unemployment rate is predicted to hit 10% or better. What gives? How can the Dow surge so when unemployment continues to surge as well. In today's column I look at some explanations for this phenomena and what data I'm watching that will foretell both a rising Dow and a declining unemployment rate. ? The easiest explanation for a Dow at 10,000 and an unemployment rate at 10% is that the Dow was artificially high at 14,000 and too low at 6,500. The fundamental conditions didn't warrant either end of the Dow's continuum. This is partly reflected in the Dow's recent rise. What explains the other aspect? Keep reading. As you may know, the Dow is an index of 30 of the largest and most widely held public companies in the U.S. The Dow is considered to be a reflection of the U.S. and, to a degree, worldwide economies. It goes up or down based on the stock prices of these 30 companies. Individually, the Dow companies' stock value reflects actual current conditions and predicted future conditions. The Dow's recent rise is due to these companies' collective actions in the face of economic downturn (actual conditions) and the market's view of an improving overall economy (future conditions). ? What did these companies do in response to actual conditions? At about the same time they collectively made drastic cuts in operating costs (largely by trimming their workforce), cut their own production by drastically cutting their inventory levels, and saved short term cash flow by cutting or postponing borrowing to fund current projects. ? The result? In the short term these companies profit position was very positive. These companies' quarterly earnings announcements have been largely very positive the last six weeks or so. That's why we've seen strong increases lately in the Dow. The market is rewarding these companies for their short term decision making. As we'll discuss below, they now have cash flow to help them with their future performance. This, however, is for the short term. The long term health of our economy lies in having sufficient number of consumers who have the confidence and means to buy products and services they want and need. ? For consumers, data indicate that in the face of extreme uncertainty about their job and the economy have dramatically cut their personal spending levels. Less consumer spending means a higher savings rate. In fact, the U.S. savings rate has ballooned recently from a zero or negative one percent to a current rate of between five and seven percent. Long term this is a good thing, but in the short term it's not so good. ? I would expect a big jump in our economic output when four factors exist. First, the consumer sentiment levels must rise. This will lead to the second factor; consumers must be willing to spend their recently accumulated cash. Consumers who were not negatively affected by the high unemployment levels have higher levels of cash on hand because they have increased their savings rate and have postponed purchases. They will eventually be willing to spend that cash on hand. Third, companies must eventually be willing to make investments to take advantage of profitable opportunities. Companies, like consumers, have higher levels of cash on hand. At some point they will be willing to spend that cash. Finally, when consumer demand returns, companies will need to ramp up production to meet this demand. That will happen relatively quickly because of companies' reduced inventory levels. To meet the increased current demand they will need to hire again – and in a big way. These reduced inventory levels mean that companies will meet this demand by shipping recently produced products as opposed to products dusty from long term inventory. This is another plus for increasing employment. ? As most have read before, unemployment is a lagging economic indicator. This means that more people will be hired after the economy has improved. Unfortunately, most believe that the U.S. unemployment levels will rise above 10%. I'm looking at the average hours worked per week index that is tracked by the U.S. Census Bureau. In two key areas – construction and manufacturing – the index indicates that average hours worked per week is down 15% in construction and 25% in manufacturing compared to the same time period in 2002. Additionally, overtime hours worked is down and average hours worked per week is below the standard 40 hour work week. Companies won't hire until overtime hours increase and the average work week rises to well above 40 hours per week. It looks like from this indicator that unemployment is not going to get better in the short term. ? I'm also looking at the Consumer Sentiment Index from the University of Michigan. This is a measure of current conditions which reflect U.S. consumers' perception of their financial situation and whether it is currently a good time to buy big-ticket items such as a car and home. This functions well as a surrogate indicator of willingness to spend. The latest numbers show an improvement in sentiment. My guess is that this is a reflection of the governments "Cash for Clunkers" program and the incentive for first time home buyers. The next reading will be key because both of these programs will have concluded. I'm a fan of our economic system. Markets, when free of outside influences, respond in a way that fixes inefficiencies and rewards productive behaviors. The length of this recession is directly related to the degree and intensity of problems. While there are issues in the future we'll need to weather, history is on our side. ? Please email me at Edward.Bashaw@tamut.edu with your thoughts and comments. (Dr. Bashaw is the Dean of the College of Business at Texas A&M University-Texarkana)
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