Economics and Scrambled Eggs

 White house economic advisor Larry Summers said in an interview with CNBC that the recent blizzards probably distorted the unemployment numbers due to be released on Friday morning. According to Summers, the mountain of accumulated snow halted construction projects and also temporarily closed many stores plus restaurants.

The White House reasoning quickly melts in the face of economic logic. Businesses make hiring or firing decisions based on the benefit that an employee brings to the table versus their cost. No doubt the weather kept people from eating out or shopping for a few days. But the dress that was not bought on Saturday because of the weather more than likely will be purchased after the roads have been plowed. The lobster whose life was saved by little snowflakes on Friday night will be boiled a week later for a delayed celebration.

The fact is that construction has hemorrhaged jobs for over a year. In a report authored by the Bureau of Labor Statistics and released at the beginning of February, the construction industry shed another 75,000 jobs, which was about the average monthly loss for the preceding 12 months.  Currently, one out of four unemployed people came from construction.

Despite the rosier picture painted by the unemployment rate dipping under 10% the last three months, raw numbers show net additions to the jobless rolls. The White house has used the magical decline in the unemployment rate as proof of a successful economic plan.

Is Summers’ statement a preview of a disappointing jobs report? Many believe the actual unemployment rate hovers above 15% when individuals no longer actively looking for work are included. A bad jobs report could chill financial markets running on hope and stifle White House claims of success.

In chess a fork occurs when a piece moves into a position where it can simultaneously attack two or more opposing pieces.  The knight, which can move in an “L” shaped pattern and four different directions, is the piece most commonly used to execute this type of attack. A fork usually results in the opposing player losing a major piece. High caliber players often take care to avoid moves that could leave an opening for two quality pieces like a Queen and a Bishop to be attacked at the same time.

In his aggression to flood the economy with fiat money and lower key interest rates to zero, Ben Bernanke may have moved his monetary pieces and the economy into a vulnerable position. The Federal Reserve faces two problems. While lower rates did little to boost an economy already flooded in debt, they did help chase money toward the stock market where indices have bounced approximately 60% from the lows made almost a year ago.

A dramatically inflated money supply creates the very real danger of rapid price increases across the economic landscape. At its very worse, inflation can destroy the currency as illustrated historically by the experience of the Weimar Republic. The Producer Price Index, which showed an annualized rise of 16%, sounded an alarm to put the brakes on the monetary printing presses.

The likely result of pulling back on the monetary reins will be much higher interest rates and siphoning money out of the stock market. On the other hand, if the Federal Reserve continues on its present course, then the odds of a currency crisis increase with each passing day.   

It looks like Bernake is sure to lose a piece. He has to be careful not to put the country into “checkmate”.

With the help of five Republicans in the US Senate, it appears the hurdle has been cleared for some form of a “jobs bill” to pass approval in Congress. Perhaps I am mistaken, but Congress already passed and the president signed a $750 billion spending bill to get people back to work. What is different about raiding an empty treasury of billions more this time to create jobs?

Architects of the legislation point to the tax credits available to businesses that increase their headcount. One idea is to give employers a tax-credit up to $5000 for each  additional person hired. At first glance this may seem like a logical incentive. But as my economic students learn, two sides exist to transaction.

The tax credit will only reduce the marginal cost of a new employee for the first year. After the initial year the cost of the new hire will balloon by at least the amount of the tax credit. As any student passing a Principles of Economic realizes, cost is just one factor in the employment equation. The other side of the coin takes into account the revenue benefit that an employee brings to the table. Firms will retain or hire individuals as long as their additional benefit exceeds their additional cost. Without a significant pick up in demand, many firms will pass on expanding their payrolls.

Small business owners point to another flaw of the proposal in that tax-credits are realized at the end of the year. The cost of a new hire drains cash flow in the meantime. As one owner stated, cash flow is at the heart of staying in business. My creditors may not wait for the federal government to reimburse me.

It looks like another lesson in failed Keynesian economics.