This week’s charts show the divergence between the US and eurozone recovery, distortions in the labour market and forecast revisions.
The economic divergence between the US and eurozone continues unabated and will be one of the key macro themes this year. The Fed is probably going to raise its policy rate several times amidst a strong economic recovery. The following chart shows the US-eurozone PMI and CPI differential. The differential for the Markit PMI has been positive from mid-2020 to fall-2021, suggesting an improving US economy, which has also led to higher inflationary pressures together with a stronger dollar.
While Citi’s Economic Surprise Index has just recently dipped below 0, the US-eurozone differential was highly positive throughout the summer and autumn of 2020, when the US economy started bouncing back from the Covid slump, as well as at the end of 2021. Recent estimates suggest that US nominal GDP has been growing far above 10% in the last quarter, thus growing at double the rate pre-pandemic. Also in real terms, the US economy is already exceeding its pre-pandemic level by more than four percentage points and the US-eurozone divergence in terms of GDP growth will continue throughout 2022.
While the US labour market recovered well, total employment is still several million short of 2019 levels. Furthermore, there are reasons to suggest that the huge economic shock it experienced has led to structural changes that might persist for a while. This can be seen when looking at the so-called Beveridge Curve, which displays the relationship between job openings and the unemployment rate. Even as the latter declined from a record high of 15% in 2020 to a low of just over 4% this year, the total number of job openings has surged to a record of more than 10 million, thus leading to a huge rightward shift of the curve. This suggests some structural mismatch in the labour market. Companies could have trouble filling vacancies because they cannot find the “right” workers and/or because they do not offer adequate salaries.
The fact that labour turnover is also at a record high suggests that compensation is an issue. The quit rate has reached a record 3% in recent months, meaning that the monthly labour turnover is exceeding 4.5 million. Meanwhile, the unemployment to job opening ratio reached a record low. Both measures suggest a relatively tight labour market.
While rising inflation has certainly been an issue, personal disposable income in real terms is roughly at its pre-pandemic trend. Moreover, personal income was far above trend throughout 2020 and 2021 thanks to extremely generous stimulus checks and unemployment benefits.
Along with the stronger labour market, we have also seen a partial comeback of the labour share – the share of income received by employees in return for their part in producing output. One of the reasons why labour share declined in recent years is the increase in asset prices, and housing in particular. Rental income of persons – consisting of rent, imputed rent and royalty payments – has almost tripled as a share of GDP in recent decades. However, the labour share has increased by more than two percentage points since the beginning of the pandemic.
*The next two charts are only accessible with Macrobond 1.25 and the Data Plus license.
This next chart shows different vintages for the Fed’s inflation forecast for 2021 based on revision history data. The strong recovery accompanied by rapidly rising inflation throughout 2021 came unexpectedly. The year has seen some of the largest revisions for economic forecasts ever recorded in history. While in the beginning of 2021 the forecast still stood at just a little over 2%, the Fed had to revise the inflation forecast to over 4% by September and over 5% by December of last year.
Given the global nature of the economic recovery and the supply chain distortions that occurred in the last year, similar revisions played out in other countries such as the UK. The difference between the UK Office for Budget Responsibility’s March and October 2021 release is particularly striking. The inflation forecast for 2021 was revised upwards by about 0.75% while the 2022 inflation forecast was increased by more than 2%.
On the one hand, this is due to a stronger than expected recovery. On the other, supply-side disruptions have been particularly bad for the UK thanks to problems associated with Brexit.
While short-term dynamics speak in favour of a strong US economy and a recovering labour market long-term prospects are more challenging. Adverse demographics is one of the key drivers of secular stagnation. Long-term population growth for the US has declined strongly and is now at its lowest point in history. There is a strong positive correlation between (lagged) real interest rates and population growth, which have declined in tandem in recent decades. While the Fed will be able to hike its policy rate in the short run, the US economy is unlikely to experience high real interest rates in the future.
Meanwhile the currency crisis in Turkey continues.
As the following chart shows, a large part of the country’s external debt is in foreign currency, predominantly US dollars and euros. The foreign currency debt to GDP ratio is at 30% for dollar-denominated and 15% for euro-denominated external debt. As the Turkish lira plunges, debt service costs will surge. The central bank’s foreign reserves recently fell from about USD90 billion to USD70 billion. Furthermore, the huge plunge in the lira has been accompanied by rapidly surging inflation, which soared to a 19-year high of just over 36% last month.
Finally, Apple made history this month when it became the first corporation to reach a market capitalisation of USD3 trillion.
The following chart shows Apple’s rapid share price increase between October and December 2021. The company has outperformed the S&P 500 over the last year, though the price decline this week removed some USD100 billion from its market value.