Anyone who thinks that the Canadian economy is not dependent on the U.S. economy need only look at the prospects for job creation in the United States. He or she will then see the prospects for job creation in Canada – and its economy.
It is hard to think of an economic indicator more important to Canadian executives these days than U.S. job growth. To generalize, where U.S. jobs go is where the U.S. economy goes; where the U.S. economy goes is where the Canadian economy goes. Unfortunately, U.S. job growth is likely to be somewhere between marginally okay and grim for some time. Federal Reserve Chairman Ben Bernanke acknowledged the hard reality of the U.S. job situation in the fall: “Although financial markets are for the most part functioning normally now, a concerted policy effort has so far not produced an economic recovery of sufficient vigour to significantly reduce the high level of unemployment”.
That the Canadian economy would move with the U.S. economy makes eminent intuitive sense and is confirmed by the historical data. Going way back, annual Canadian and U.S. GDP growth statistics virtually overlay one on top of the other.
How could we not track the U.S., given that a quarter of our GDP exports are to the U.S. and key industries such as car and truck manufacturing for all practical purposes are integrated across North America. Additionally, we are dominated by U.S. media, which tends to align Canadian confidence, or the lack of it, with U.S. confidence. Finally, Canadian and U.S. capital markets are inextricably linked through institutional arrangements, fund flows, interest rates, exchange rates and stock markets.
Geography, culture and mutual interest have always tied us to the U.S. but what took it to a new level, arguably to our immense benefit, was the 1988 Free Trade Agreement. Secure, preferential access to the 300 million richest consumers on the planet gave Canadian business scale economies that have driven an explosion in U.S. exports. Over and over, we have found we could go head to head with the U.S. competition and not only hold our own, but prevail.
While the assertion that the U.S. economy will go where U.S. jobs go is arguable, it is very plausible. Until recently, there was no argument. Jobs followed economies, not vice versa. In the jargon of the economist, job growth was a lagging economic variable, meaning it followed the economy.
The logic was that slowdowns were engineered by central banks raising interest rates to cool inflation. When the central bank reversed course and lowered rates, demand and GDP growth picked up, leading firms to start hiring again; hence, job growth followed the economy.
But that is likely not so in the U.S. today. The case is powerful that the December 2007 to June 2009 U.S. recession was so bad that it turned job growth into a leading economic indicator. The word “Bad” does not really do justice to what the U.S. has just been through: at 18 months, according to the Business Cycle Dating Committee of the National Bureau of Economic Research, the longest recession since the Second War; a 4.1 percent decline in GDP, 8 million lost jobs because of the recession and another several million more people underemployed; an unemployment rate that pushes 10 percent in a U.S. economy where the recent norm has been closer to 5 percent; over one million people who have stopped looking for work and over 40 percent of U.S. unemployed classified as long term, meaning over 27 weeks. Not quite the mother of all recessions; that title would go to the 43-month Great Depression, August 1929 to March 1933. But this certainly rates an uncle and maybe even a brother in the recession family tree.
The case for job growth as a leading economic indicator in the U.S. is both straightforward and compelling. The recession flattened many U.S. consumers’ willingness to spend. Consumers are about 70 percent of the U.S. economy and thus absolutely critical to U.S. economic performance. The key to consumer spending is the feeling that your job is secure. Job losses during the recession were so severe that they not only took a big toll on the confidence and spending of those who lost their jobs, but also a toll on many, many more who began to think that their jobs might be next. You cannot get the U.S. economy performing well again until people are secure about their jobs; getting people secure about their jobs depends on people seeing a lot of jobs being created.
A bizarre Catch-22 situation: a strong U.S. economy depends on job growth and job growth depends on people being secure about their jobs which in turn depends on job growth. No wonder policymakers are having such a tough time.
U.S. job creation going forward is facing very tough headwinds. First, many of the jobs that have been lost are not coming back. They have either moved to countries with vastly better labour force economics or are casualties of technological change.
Second, this has not been a garden-variety, central-bank induced cyclical recession in the United States. The root causes this time are liquidity, credit and banking problems caused by wildly excessive leveraging, poor lending practices, complex financial gymnastics and near zero personal savings. Such recessions have a long history of abnormally slow recovery and big job-creation problems. There is no reason to think the U.S. will be spared the history this time around.
Third, many of the unemployed do not have the skills needed to work in a modern economy. A paradox of the U.S. job situation is that millions are out of work at the same time as millions of jobs are going begging for want of the right skills. Job training is the obvious answer but it can only go so far with older and obsolete job seekers.
Fourth, U.S. public sector finances are a horrific cocktail of uncontrollable spending, high taxes, huge imbedded debts, intractable deficits and massive entitlements. In past recessions, the U.S. public sector has picked up some of the job creation slack. But not this time. Financial pressures ensure that the public sector in the U.S. will be letting people go for the indefinite future.
Fifth, manufacturing and home construction have often led U.S. job creation coming out of recessions. The stumbling block this time for U.S. manufacturing is highly efficient/low wage foreign competition; for home construction, it is oversupply and foreclosure problems in the U.S. housing market. Do not count on much job creation help from U.S. manufacturing and home construction any time soon.
Sixth, U.S. consumers are not confident. When confidence is low it is normal to seek solace in a higher rate of savings. Saving more is great protection against a possibly very difficult future but increased savings means reduced consumption and it is consumption that drives job creation. A cost of rising U.S. personal savings is lost jobs in the short-term.
Seventh, job creation depends on spending, which in turn is highly dependent on the availability of credit. A significant percent of spending is financed. In the U.S., the good news is that interest rates are low but the bad news is that credit is difficult to get. The U.S. credit markets are still a long way from being healthy and that is bad news for U.S. job creation.
Eighth, the business sector is the primary source of U.S. jobs. U.S. business needs proof that the recovery is sustainable before it will commit to permanent jobs. Such proof is not likely in the near term.
Finally, the strained relationship between U.S. business and the current U.S. administration is not good for job creation.
Canadian executives should closely monitor U.S. job creation. This is especially the case for executives whose businesses are heavily dependent on U.S. exports. The U.S. economy will struggle until U.S. job creation picks up meaningfully. And we will struggle until the U.S. stops struggling.
