Income inequality

#257 Super Bowl Show with Mohamed El-Erian

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It doesn't get any better than spending an hour with the great economist, Dr. Mohamed El-Erian, author of the new book, "The Only Game in Town: Central Banks, Instability, and Avoiding the Next Collapse". Mohamed is Chief Economic Advisor at Allianz and chair of President Obama’s Global Development Council and if that doesn't keep him busy enough, he is a columnist for Bloomberg View, a contributing editor at the Financial Times and an influencer at LinkedIn.

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Mohamed started our conversation by explaining the role of central banks and how that role changed dramatically during the financial crisis, as bankers relied on a “Whatever it Takes” mentality to help rescue the economy. While he was supportive of those actions, Mohamed also recognizes that there have been serious consequences that have occurred.

During our conversation, he outlined some big problems that the global economy faces, including how to sustain inclusive growth, how to address income and wealth inequality and the yawning gap between markets and economic fundamentals.

Mohamed says that we are coming to a "T-Junction": on one end, we are destined for a low growth economy, plagued by high unemployment, increasing income inequality and political extremism. On the other end, we see a resumption of growth and broad-based job creation, with decreasing income inequality and a drop in financial instability. While we all hope for the more positive outcome, Mohamed says that there is an  equal probability that either scenario plays out.

For more, you can snag a copy of his new book, "The Only Game in Town: Central Banks, Instability, and Avoiding the Next Collapse".

Schlesinger and El-Erian at LinkedIn FinanceConnect15

Thanks to everyone who participated this week, especially Mark, the Best Producer in the World. Here's how to contact us:

  • Call 855-411-JILL and we'll schedule time to get you on the show LIVE 

The Fed Fails to Soothe Investors

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Citing the slowdown in China and other emerging markets; a strengthening US dollar; global market volatility; and persistently low inflation, the Federal Reserve kept short term interest rates at 0-0.25 percent, which is where they have been for nearly seven years. Although the central bankers believe that these issues are “transitory,” they decided to err on the side of caution and do nothing. If Fed officials meant to soothe investors, they failed, at least in the short term. In the category of unintended consequences, the Fed’s inaction, which was meant to assuage, may have had the opposite effect, by reinforcing investors’ worries about the global economy. Previous fears about China’s growth, which caused the summer stock market correction, went straight to the front burner, despite scant evidence that the global slowdown has hit US shores.

Stocks edged lower the afternoon of the decision and tumbled the following session. Although a rate increase may have done even more damage to stocks, the fact that the Fed did not follow through on a rate increase, after telegraphing it for months, has led some analysts to question they can trust what officials are communicating to the public. Paul Ashworth of Capital Economics wrote “A few months ago it was Greece, now it is China. According to the Fed’s accompanying statement ‘recent global economic and financial developments may restrain economic activity somewhat." [His emphasis] In another couple of months it could be the debt ceiling or who knows what else that is generating the uncertainty.”

While the status of the world’s economy may be uncertain now, one thing is clear: median household income in the US is stuck. With all eyes on the Fed, few paid attention to the mid-week release of a Census Bureau report, which showed that median household income was $53,657 in 2014, an $805 decrease from 2013. This is the third consecutive year that the annual change was not statistically significant, following two consecutive annual declines.

More sobering is that when adjusted for inflation, the median household is 6.5 percent lower than it was in 2007 ($57,357), on the eve of the recession and 7 percent lower than it was 15 years ago in 2000 ($57,724), prior to the previous recession. (Income data from Sentier Research are a bit better, but show a similar trend—the median household income in July was 2.6 percent lower than when the recession started and 3.8 percent below January 2000 levels.)

Median income peaked in the mid-1990’s and since then, has gone nowhere fast. Despite hopes for overall wage gains in the current recovery, most of the progress on incomes has been clustered around the top 5 percent of all earners. The gap between high earners and low earners has increased 5.9 percent from 1993, the earliest year available for comparable measures of income inequality.

I hate to end on such a sour note, so perhaps wages will soon start to show improvement across all income levels. Chairman Janet Yellen said that the pace of job gains has been “solid” and fed officials raised their growth forecasts for this year, so maybe, just maybe, the income numbers will start to pick up. Even if they don’t, a sunnier outlook in the fourth quarter is likely to prompt the Fed to raise rates by a quarter-point, either in October or December. 

MARKETS:

  • DJIA: 16,384 down 0.3% on week, down 8% YTD
  • S&P 500: 1,958 down 0.2% on week, down 4.9% YTD
  • NASDAQ: 4,827 up 0.1% on week, up 2% YTD
  • Russell 2000: 1163, up 0.5% on week, down 3.4% YTD
  • 10-Year Treasury yield: 2.19% (from 2.19% a week ago)
  • October Crude: $44.68, down 0.01% on week
  • December Gold: $1,137.80, up 3.1% on week
  • AAA Nat'l avg. for gallon of reg. gas: $2.30 (from $2.35 wk ago, $3.36 a year ago)

THE WEEK AHEAD:

Mon 9/21:

8:30 Existing Home Sales

Tues 9/22:

Weds 9/23:

Thurs 9/24: 8:30 Durable Goods Orders

10:00 New Home Sales

5:00 Janet Yellen Speaks at UMass/Amherst

Fri 9/25:

8:30 Q2 GDP (final reading)

10:00 Consumer Sentiment

Labor Day Lament

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Labor Day became a federal holiday in 1894 and according to the Labor Department, the day “is dedicated to the social and economic achievements of American workers. It constitutes a yearly national tribute to the contributions workers have made to the strength, prosperity, and well-being of our country.” The establishment of a specific holiday honoring employees was meant to signify a shift from the brutal working conditions of the Industrial Revolution, where many workers faced long hours and extremely unsafe working conditions, to a new century where workers’ rights would be celebrated. I hate to rain on your Labor Day holiday, but the economic recovery has not delivered the goods for many Americans. Last week in this space, I lamented the divergence between household income and the stock market, which has led to a two-tiered recovery. Proof of that split was evidenced in a recent Rutgers University report Unhappy, Worried, and Pessimistic: Americans in the Aftermath of the Great Recession,” which found that “the protracted and uneven recovery from the Great Recession has led most Americans to conclude that the U.S. economy has undergone a permanent change for the worse. Seven in ten now say the recession’s impact is permanent, up from half in 2009 when the recession officially ended.”

And just in time for this week’s release of the August jobs report and the government analysis of worker productivity, the liberal think tank Economic Policy Institute has issued a sobering report, called “Why America’s Workers Need Faster Wage Growth”. The report rehashes much of the income inequality data that has been discussed for some time (see “Income Gap Blows Out: Rich Get Richer”), including the fact that despite overall gains in productivity, wages for the vast majority of Americans have gone nowhere fast. But a small percentage of higher income earners have done quite well. The top one percent of earners saw cumulative gains in annual wages of 153.6 percent between 1979 and 2012—far in excess of economy-wide productivity growth and over four times faster than average wage growth. These top earners also did better than those in the 90th through 99th percentiles.

Barry Ritholtz points out, “The recovery is here, it just isn't evenly distributed.” He goes on to cite last year’s Pew Research Center report, which showed that most of the wealth accumulation in the recovery has gone to the top seven percent of wage earners, mainly because of gains in financial markets. “As for the other 93 percent, its wealth has declined 4 percent.”

Before you bombard me with accusations of being a Debbie Downer, there are some glimmers of hope. Weekly jobless claims are at eight-year lows; the economy is producing an average of 230,000 jobs per month this year; and small businesses are feeling more confident in the overall economy, the future of their own business and have made important steps forward in hiring. But I also receive countless e-mails and comments from people who are working their butts off, but can’t seem to get ahead.

Beyond the feel-good notion that an expanding economy should help the majority of workers, we all have a vested interest in everyone being able to celebrate Labor Day, not just a fraction of us. If incomes were to rise for a greater number of people, it would likely prompt an increase in consumer spending, which in turn should lead to more job gains and a further increase in incomes. Let's hope that the so-called “virtuous cycle” will begin in earnest, as economic growth becomes stronger and more widespread...then everyone can enjoy the fruits of the recovery and we can all celebrate Labor Day.

MARKETS: It was the best August in 14 years for stocks. The S&P 500 took out 2,000, pushing it up a staggering 195 percent since the March 2009 low. That makes the current bull market the fourth-best since 1928 in terms of both duration and magnitude.

  • DJIA: 17,098, up 0.6% on week, up 3.6% on month, up 3.2% YTD
  • S&P 500: 2003, up 0.8% on week, up 3.8% on month, up 8.4% YTD
  • NASDAQ: 4464, up 1.7% on week, up 4.8% on month, up 9.7% YTD
  • 10-Year Treasury yield: 2.34% (from 2.41% a week ago)
  • October Crude Oil: $95.96
  • December Gold: $1287.40
  • AAA Nat'l average price for gallon of regular Gas: $3.44 (from $3.56 a year ago)

THE WEEK AHEAD:

Mon 9/1: US MARKETS CLOSED IN HONOR OF LABOR DAY

Tues 9/2:

9:45 PMI Manufacturing Index

10:00 Construction Spending

Weds 9/3:

Motor Vehicle Sales

2:00 Fed Beige Book

Thurs 9/4:

8:15 ADP Private Employment

8:30 Weekly Jobless Claims

8:30 International Trade

10:00 Productivity

10:00 ISM Non-Manufacturing

Fri 9/5:

8:30 August Jobs Report

Janet Yellen’s Eight Words

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That was quite an initiation for Janet Yellen. After delivering mostly-expected policy decisions (a further $10 billion reduction in bond buying and the addition of new, more qualitative measures to determine when the central would raise short-term interest rates), the newly minted Fed Chair conducted her first press conference. Stock and bond markets were already trading lower before the presser began, in response to Fed officials’ raising interest rate projections slightly—by the end of 2015, it is now expected that the fed funds rate would be 1 percent, up from the 0.75 percent projection made last December, and by the end of the following year, the rate would be 2.25 percent, up from 1.75 percent. Those may not seem like big increases, but they represent a sizable jump, when it comes to market expectations. Yellen tried to downplay the increases, warning against reading too much into the so-called "dot plot," (the prediction of the Fed Funds rate from each Fed Governor is plotted on a chart).

But the change in rate expectations was just a warm up for the larger jolt to markets. The accelerant to the selling came later during the press conference, when Yellen was asked how long after the end of bond buying might the central bank start raising rates. In an offhanded manor, she responded with eight words that shook up markets: “something on the order of around six months.”

SELL MORTIMER, SELL! Investors quickly did a little math: if bond buying ends in the fall, that means interest rates could rise in the spring of 2015, about 3 to 6 months earlier than generally anticipated. Those words pushed up rate expectations and walloped stock and bond prices within moments that Yellen uttered them.

It took investors all of 24 hours to realize that maybe not much had changed after all. The Fed’s path is dependent on incoming economic data and both the Fed statement and Yellen’s press conference indicated that the central bank is likely to move only gradually. Unless inflation starts rising precipitously, the Fed will continue to err on the side of easy monetary policy.

It also is interesting to note that the central bank is notoriously bad at making short-term predictions about the economy and even if they are right about rates raising a sooner than previously thought, wouldn’t that be good news? It would mean that the economy had improved enough to warrant the Fed’s removal of stimulus. That may not be great news for fast money investors, but for everyone else in the real word, an economy that is growing by more than 3 percent annually, which can create decent jobs and where all income levels can get a raise, sounds dreamy.

A word about those elusive wage increases. There have been some murmurs about wage growth finally accelerating this year. Currently wages are increasing by about 2 percent from a year ago, but only by 1.1 percent after adjusting for inflation. But wage growth has been concentrated on the upper end of the income spectrum, according to the OECD’s Society at a Glance report, a data-driven barometer of the economic and social health of its 34 member countries. The report found that in the US, the share of pre-tax income going to the top 1 percent of earners continues to be the highest among OECD countries, standing at 19.3 percent in 2012, more than double the level in 1980.

As noted in House of Debt, real income for the median U.S. family doubled from 1947 to 1980, when the rising tide of productivity lifted all boats. However, “while the United States is producing twice as much per hour of work today compared to 1980, a small part of the gain in real income has gone to the bottom half of the income distribution,” as the share of profits has risen faster than wages and the highest paid workers are getting a bigger share of the wages that go to labor.

MARKETS: Despite the mid-week, Fed-induced sell-off, stock indexes finished higher over the five trading sessions.

  • DJIA: 16,302, up 1.5% on week, down 1.6% YTD
  • S&P 500: 1866, up 1.4% on week, up 1% YTD
  • NASDAQ: 4276, up 0.7% on week, up 2.4% YTD
  • 10-Year Treasury yield: 2.75% (from 2.65% a week ago)
  • April Crude Oil: $99.46, up 0.9% on week
  • April Gold: 1336, down 3.1% on week
  • AAA Nat'l average price for gallon of regular Gas: $3.52 (from $3.69 a year ago)

THE WEEK AHEAD: As the second half of monthly housing data is released (new home sales and the Case Shiller price index), the biggest risk facing the market is that higher mortgage rates and tight credit conditions will sideline first time homebuyers. In order for the next leg of the housing recovery to take hold, these buyers must take the place of investors and cash buyers, who are likely to peter out.

Mon 3/24:

8:30 Chicago Fed National Activity Index

Tues 3/25:

9:00 Case-Schiller Home Price Index

10:00 Consumer Confidence

10:00 New Home Sales

Weds 3/26:

8:30 Durable Goods Orders

Thurs 3/27:

8:30 Weekly Jobless Claims

8:30 Q4 GDP (final estimate)

8:30 Corporate Profits

10:00 Pending Home Sales

Fri 3/28:

8:30 Personal Income and Spending

9:55 Consumer Sentiment

Income Gap Blows Out: Rich Get Richer

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Rich or poor it’s nice to have money. The income gap in America has widened further during the past few years, as the average U.S. worker continues to struggle to gain ground after the Great Recession. Economist Emmanuel Saez of University of California, Berkeley has updated his important analysis of income inequality and the results are sobering. From 1993 – 2012, average real incomes (adjusted for inflation) per family grew by 17.9 percent (that amounts to an annual growth rate of 0.87 percent). To get a better picture of the overall growth, the research excluded the top 1 percent of earners, (defined as income over 394,000), which reduces income gains over the 19-year period to 6.6 percent (or an annual growth rate of 0.34 percent). The top 1 percent incomes grew by 86.1 percent (annual growth rate of 3.3 percent).

Bottom line: From 1993 – 2012 the top 1 percent of earners, captured just over two-thirds of real incomes per family.

The Great Recession did wallop the folks at the top. From 2007-2009, income for the top 1 percent plummeted 36.3 percent, while the bottom 99 percent declined by 11.6 percent. But the rich came roaring back during the first three years of the recovery period: from 2009 to 2012, average household income, adjusted for inflation, increased by 6 percent, but the gains were even more lopsided than the longer term trend: the top 1 percent, grew by over 31 percent, while the bottom 99 percent saw just a 0.4 percent increase.

That means that the top 1 percent captured 95 percent of the income gains during the three-year recovery. Saez notes, “In sum, top 1 percent incomes are close to full recovery while bottom 99 percent incomes have hardly started to recover.”

The trends that fostered income inequality have been in place for some time. As early as the 1980’s, technological advances and globalization began to impact average income. At the same time, the ability of unions to protect wages for workers started to diminish and large corporations replaced standard benefits like company-funded pension plans with employee-funded 401 (k) plans. The icing on the cake was a tax policy that over the past 20 years favored the highest earners.

Saez ends the report with the following challenge: “We need to decide as a society whether this increase in income inequality is efficient and acceptable and, if not, what mix of institutional and tax reforms should be developed to counter it.”

My two cents: an economy where only the top 1 percent makes progress is not sustainable.