By Jeffrey J. Peshut

March 16, 2017

In a February 13, 2014 post titled What’s Next For Employment Growth?, RealForecasts.com demonstrated that changes in the growth rate of the True Money Supply (TMS) can accurately forecast changes in the growth rate of Total Employment.  In a March 20, 2014 post titled Where Will Commercial Real Estate Returns Go From Here?, RealForecasts.com highlighted the strong correlation between the year-over-year growth rate of Total Employment and the annual returns from private-market real estate equity investments, as reflected in the NCREIF Property Index (NPI).  Because of this strong correlation, forecasting changes in Total Employment can help us to forecast changes in the NPI Index.  Before doing that, however, we need to first understand where the employment markets are in their current cycles.

Total Employment – Historical Perspective

U.S. Total Non-Farm Employment from 1978 through 2016 is shown in Figure 1.

Figure 1: Total Non-Farm Employment (000’s)  1978 – 2016

From its cyclical low of 127.8 million in January, 2010, Total Employment recovered to the previous cycle’s high of 139.3 million in mid-2014 and grew to this cycle’s high of 146.2 million at the end of 2016.

Figure 2 contains the year-over-year growth of U.S. Total Non-Farm Employment from 1978 through 2016.  This chart clearly identifies the cycles in Total Employment over the past 40 years.

Figure 2: U.S. Total Non-Farm Employment (YOY%)  1978 – 2016 

A few points worth noting.  The year-over-year growth of  Total Employment has averaged 1.43% since 1978.  The greatest rate of growth occurred between 1982 and 1990 and 1991 and 2000.  The growth rate between 2003 and 2008 and 2010 and 2017 has been modest in comparison, barely exceeding the 40-year average during those periods.  For the current cycle, the Total Employment growth rate peaked at 2.19% in 2014 and has been decelerating since, finishing 2016 at 1.46%.

Because I live in Denver, Colorado and many followers of RealForecasts.com live here as well, I’ve included Total Non-Farm Employment for the Denver MSA in Figure 4.

Figure 3: Denver-Aurora-Lakewood Total Non-Farm Employment (000’s)  1990 – 2016

From its cyclical low of 1.19 million in 2009, Total Employment recovered to the previous cycle’s high of 1.26 million in 2012 and grew to this cycle’s high of 1.46 million at the end of 2016.

Figure 4 contains the year-over-year growth of Total Non-Farm Employment for the Denver MSA from 1990 through 2016.  Once again, the cycles in Total Employment are quite evident.

Figure 4: Denver-Aurora-Lakewood Total Non-Farm Employment (YOY%) 1978-2016

The year-over-year growth of  Total Employment for the Denver MSA has averaged 2.03% since 1990.  The greatest rate of growth occurred between 1991 and 2000 and between 2011 and 2016.  For the current cycle, the Total Employment growth rate peaked at 4.22% in 2014 and had been decelerating before accelerating slightly in 2016.

Total Employment – Forecast

As demonstrated in previous posts, changes in the growth rate of the True Money Supply (TMS) can accurately forecast changes in the growth rate of Total Employment.  Figure 5 presents the year-over-year growth of TMS from 1978 through 2016.

Figure 5: True Money Supply (YOY%)  1978 – 2016

Since the end of QE3 in late 2013 and the end of the Fed’s Taper policy in late 2014, the growth rate of TMS has maintained a remarkably steady level of about 8% per year.  Such a steady level of growth is unprecedented over the past 40 years.

Figure 6 compares changes in the growth rate of the True Money Supply (TMS) with changes in the growth rate of Total Employment.

Figure 6: U.S. Total Non-Farm Employment (YOY%) v. True Money Supply (YOY%) 1978 – 2016 Actual and 2017 – 2019 Forecast

This chart demonstrates that peaks and troughs in the growth rate of Total Employment correlate strongly with peaks and troughs in the growth rate of TMS, with a lag of one to two years before the year 2000 and three to fours since then.

NCREIF Property Index – Forecast

A comparison of the growth rates in the total return for the NCREIF Property Index (NPI) is shown in Figure 7,

Figure 7: NPI Total Return v. U.S. Total Non-Farm Employment (YOY%)  1978 – 2016 Actual and 2017 – 2019 Forecast

Once again, the peaks and troughs in the growth rate of the NPI correlate strongly with the peaks and troughs of Total Employment, with a slight lag.  As goes Total Employment, so go private-market commercial real estate equity returns.

Conclusion

If we analogize between the employment cycles and the game of baseball, the data in the foregoing charts suggests that Total Employment is in the 8th or 9th inning of a nine-inning game.  By extension, the NPI Total Return is also in the late innings of a nine-inning game.  It seems likely, however, that the steady level of growth in TMS over the past few years could send both games into extra innings.  To find out if we are in for extra innings, check back with RealForecasts.com for updates about the TMS growth rate.

Many thanks to Michael Pollaro at The Contrarian Take for providing the TMS data used in this post.

By Jeffrey J. Peshut

March 4, 2014

On February 28th, the Commerce Department released its revised estimate of real Gross Domestic Product growth for the fourth quarter of 2013, reducing it from January’s original estimate of 3.2% to 2.4%.  Both are down from the third quarter’s GDP growth of 4.1%.  For the entire year, real GDP grew by only 1.9% after expanding by 2.8% in 2012.

What are people saying about this news?  Many are wondering whether the weak economic data represent a mere seasonal speed bump on the road to a continued economic recovery or a harbinger of a loss of momentum in economic activity.

In her appearance before the Senate banking committee last week, new Federal Reserve Chair Janet Yellen acknowledged that “we have seen quite a bit of soft data over the last month to six weeks”, referring to disappointing data about industrial production, employment, the housing market and retail sales.  “What we need to do . . . is to try to get a firmer handle on exactly how much of that set of softer data can be explained by weather and what portion if any is due to a softer outlook,” she added.

Because this writer lacks the meteorological skills ostensibly possessed by Ms. Yellen and others at the Fed, RealForecasts.com will limit its analysis to data associated with GDP and the money supply.

Gross Domestic Product and Gross Domestic Product Growth – Historical Context

In current dollars, Gross Domestic Product increased from $2.4 trillion in 1978 to $16.8 trillion in 2013, a total of $14.4 trillion and an average of approximately $411.4 billion per year    Although there have been four economic recessions in the U.S. since 1978 — traditionally defined as two consecutive quarters of negative GDP growth — 2009 was the only year during that period in which GDP was less than it was in the previous year.  See Figure 1,

Figure 1: Gross Domestic Product ($Billions) 1978 – 2013

Because nominal GPD includes increases in production due to price changes, economists prefer to remove the effects of price inflation and use real GDP to determine how much the economy has actually grown from one year to the next.  Real GDP for 1978 to 2013, calculated as index numbers with 2009 equal to 100, is shown in Figure 2.  Real GDP fell in 1980, 1982, 1991, 2008 and 2009 and didn’t surpass its 2007 level until 2011.

Figure 2: Real Gross Domestic Product (Index Numbers, 2009=100)  1978 – 2013

In percentage terms, real GDP increased at an average annual growth rate of approximately 2.8% from 1978 through 2013.  See Figure 3.  This time period included four recessions and two longer periods of above-average growth (1983 – 1989 and 1992 – 2000) followed by one shorter period (2003 – 2006) of above-average growth.

Since 2001, however, real GDP has grown at an average annual rate of only 1.8%.  From 2001 through 2009 it grew even more slowly — reporting an anemic average annual rate of 1.56%.  In the four years since the end of The Great Recession, real GDP has fared slightly better, posting an average annual rate of 2.25%.

Figure 3: Real Gross Domestic Product (YOY%)  1978 – 2013

Gross Domestic Product Growth – Forecast

Two posts ago, in Does The Federal Reserve Really Create The Boom/Bust Cycle?, RealForecasts.com explained how the Federal Reserve does indeed create the boom/bust cycle through the artificial expansion and contraction of the supply of money and credit.  The definition of the money supply used to demonstrate the Fed’s creation of the boom/bust cycle was the True Money Supply (TMS).

Because a recession is defined as two consecutive quarters of negative GDP growth, GDP is the key indicator of any business cycle.  The chart in Figure 3 shows the relationship between a decrease in GDP and the declaration of a recession.  A sharp drop in real GDP accompanied each of the four economic recessions that have occurred since 1978.

The chart in Figure 4 shows that changes in the growth rate of TMS can accurately forecast changes in the growth rate of GDP.  When the growth of TMS is accelerating, GDP growth also accelerates.  When the TMS growth rate reaches its peak, the GDP growth rate also typically peaks, but with a one to two year lag.  Once the rate of growth of TMS has peaked and begins to decelerate, GDP’s rate of  growth also begins to decelerate — still with a lag.  And when the TMS growth rate reaches its trough, the GDP growth rate also troughs — again, usually within one to two years.

Exceptions to the one to two year lag between the TMS growth rate and the GDP growth rate occurred between 1984 and 1987, 2001 and 2004 and 2006 and 2009.  In the first instance, from 1984 to 1987, the deceleration of GDP growth lagged the acceleration of TMS growth by three years .  Similarly, the acceleration of GDP lagged the acceleration of TMS growth by three years from 2001 and 2004 and the deceleration of GDP lagged the deceleration of TMS by three years between 2006 and 2009.

Figure 4: Real Gross Domestic Product (YOY%) v. True Money Supply (YOY%)  1978 – 2013 Actual and 2014 – 2016 Forecast

Although TMS has been increasing over the past two years, it’s been increasing at a decreasing rate, which is what really matters. The Fed’s reduction of bond purchases will likely decelerate the growth of TMS even further, setting the stage for the next credit crisis.

Extrapolating the TMS’s current trajectory into the future, TMS growth should approach zero in early 2015, setting the stage for a credit crisis near the end of 2015 or the beginning of 2016.  Based upon a one-year lag between the TMS growth rate and the GDP growth rate since 2009, the growth rate of GDP is expected to approach zero in early 2016.

Of course, the trajectory of the TMS and GDP growth rates could change as a result of a change in the Fed’s current policy.  Referring to the possibility that the Fed will reconsider its current tapering policy, Ms. Yellen said, “If there is a significant change in the outlook, certainly we would be open to reconsidering, but I wouldn’t want to jump to any conclusions.”   For this reason, the forecast in the preceding paragraph is RealForecast.com’s base-case scenario.  To anticipate changes in the TMS and GDP growth rates, RealForecast.com recommends that readers continue to monitor the Fed’s actions as 2014 unfolds.

Thank you to J. Michael Pollaro, author of The Contrarian Take, for the TMS data used to construct the charts in this article.

By Jeffrey J. Peshut

February 13, 2014

On February 7th, the Labor Department announced that Total Non-Farm Employment (“Employment”) increased by 113,000 workers during January. The job gains were lower than expected, however, and reflected the second straight month of disappointing job growth. December payrolls were adjusted upward slightly, from 74,000 to 75,000. Notwithstanding these modest gains, the Unemployment Rate edged slightly downward from 6.7% to 6.6%, the lowest since October 2008.

Because the Unemployment Rate measures only the unemployed who are actively looking for work, however, the current Rate distorts the actual number of available workers in the economy. Some people would very much like to work, but have become so frustrated with the lack of suitable employment alternatives that they’ve withdrawn from the labor force for the time being. Business owners may not be aware of all the options to them when it comes to recruitment. For those looking to employ truck drivers, for example, there is software that they can look at that will help them recruit the best workforce possible. As a result of the distortion of the number of available workers, the absolute level of Employment and the Employment growth rate provide a better yardstick for measuring the state of the U.S. labor market and economy.

Employment and Employment Growth – Historical Context

In absolute terms, Employment increased by 52.3 million workers from 1978 through 2013. During this 35-year period, there were two lengthy periods with particularly strong Employment growth. From the beginning of 1983 through mid-1990, a total of seven-and-a-half years, Employment grew by 21.0 million or 2.8 million workers per year. Employment grew by 24.4 million during the nine-and-a-half year period from mid-1991 through the end of 2000 or 2.6 million workers per year.

In the new millenium, Employment growth has been much more modest. From mid-2003 through the end of 2007, Employment increased by only 8.1 million — 1.8 million per year — peaking at about 138 million at the end of 2007. Employment leasing through what is known as a professional employer organization, or PEO, is becoming increasingly popular and should be reflected in employment statistics. The benefits of employing individuals in this manner are many but you can do research on the subject here if you’re interested in learning more for yourself – https://thepeopeople.com/employeeleasing/.

As a result of massive layoffs during the Great Recession, Employment reached a trough of about 129.4 million at the end of 2009 — a loss of almost 8.6 million jobs over two years. This means that the U.S. economy lost 500,000 more jobs during 2008 and 2009 than it gained during the entire 2003 to 2007 growth period. It’s no wonder that so many economic commentators refer to the period from 2001 to 1010 as “The Lost Decade”.

Since the beginning of 2010, the U.S. economy has recovered about 7.5 million of these jobs — slightly less than 1.9 million per year — resulting in Employment of 136.9 million at the end of 2013. This is still short of the 2007 peak. See Figure 1,

Figure 1: Total Non-Farm Employment 1978 – 2013

In percentage terms, from 1978 through 2013, Employment increased at an average annual growth rate of approximately 1.4%. During the two lengthy growth periods of the 1980s and 1990s, however, the percentage growth rate was much higher. From the beginning of 1983 through mid-1990, Employment grew at an average annual growth rate of 2.8%. During the nine-and-a-half year period from mid-1991 through the end of 2000, Employment grew at an average annual growth rate of 2.4%,

From mid-2003 through the end of 2007, Employment increased at a 1.4% average annual growth rate. Employment has grown at an average annual rate of 1.45% since the current recovery began in 2010. Both are in line with the long-term average of 1.4%, but well short of the more robust growth of the 1980s and 1990s. See Figure 2.

Figure 2: Total Non-Farm Employment (YOY%) 1978 – 2013

If employment growth continues at the current pace, the economy should finally eclipse the 2007 peak sometime during 2014. This means the recovery period of the last business cycle will have taken almost five years.

Employment and Employment Growth – Forecast

The last post on RealForecasts.com demonstrated how the Federal Reserve creates the boom/bust cycle through the artificial expansion and contraction of the supply of money and credit. The definition of the money supply used to demonstrate the Fed’s creation of the boom/bust cycle was the True Money Supply (TMS).

Employment is one of the key components of any business cycle — it increases during the boom period and decreases during the bust. The chart in Figure 2 clearly supports this proposition. A loss of jobs accompanied each of the four economic recessions that have occurred since 1978.

The chart in Figure 3 shows that changes in the growth rate of TMS can accurately forecast changes in the Employment growth rate. When the growth of TMS is accelerating, Employment growth also accelerates, When TMS growth reaches its peak, Employment growth typically peaks one to two years later. Once the growth of TMS has peaked and begins to decelerate, Employment also begins to decelerate — still with a lag. And when TMS reaches its trough, Employment growth also troughs — again, usually within one to two years.

The exception to the one to two year lag between the TMS growth rate and the Employment growth rate occurred between 2001 and 2005. In that case, the acceleration of Employment growth lagged the acceleration of TMS growth by four years. Similarly, the deceleration of Employment lagged the deceleration of TMS by three years between 2006 and 2009.

Figure 3: Total Non-Farm Employment (YOY%) v. True Money Supply (YOY%) 1978 – 2013 Actual and 2014 – 2016 Forecast

Although TMS has been increasing over the past two years, its growth rate has been slowing, which is what really matters. The Fed’s reduction of bond purchases will likely decelerate growth of the TMS even further, setting the stage for the next credit crisis. If the two-year lag between the TMS growth rate and the Employment growth rate holds true going forward, look for the Employment growth rate to begin to decelerate from its present rate during 2014.

Extrapolating the TMS’s current trajectory into the future, TMS growth should approach zero in early 2015, setting the stage for a credit crisis near the end of 2015 or the beginning of 2016. In the meantime, the growth of Employment will continue to decelerate and is expected to reach zero in the 2015 to 2016 timeframe.

While that trajectory of the TMS and the Employment growth rate could change as a result of a change in the Fed’s current policy, the forecast outlined above is RealForecast.com’s base-case scenario. To anticipate changes in the TMS and Employment growth rate, it will be important to continue to monitor the Fed’s actions as 2014 unfolds.

Thank you to J. Michael Pollaro, author of The Contrarian Take, for the TMS data used to construct the charts in this article.

By Jeffrey J. Peshut

January 14, 2014

On Monday, January 6th, the U.S. Senate confirmed Janet Yellen as the next Chair of the Board of Governors of the Federal Reserve System.  Yellen will take over the role from current Chair Ben Bernanke, whose term ends on January 31, 2014.  Yellen will also take over Bernanke’s role as Chair of the Federal Open Market Committee (FOMC), the Fed’s primary monetary policymaking body.

Many have lauded Bernanke for his astute leadership of the Fed as it helped to avert a meltdown of the U.S. economy in 2008 and 2009 and put it back on the path to recovery — as slow and modest as it has been.  Proponents of Austrian Business Cycle Theory, on the other hand, argue that the Fed actually creates the business cycle by artificially expanding the supply of money and credit, lowering interest rates below their market or “natural” level and thereby creating an unsustainable economic boom which inevitably results in a bust.  They contend that giving Bernanke and the Fed credit for averting an economic meltdown is akin to giving an arsonist credit for putting out a fire that they set in the first place and creating favorable conditions for the next fire!

Austrian Business Cycle Theory

Thomas E. Woods, Jr., a senior fellow at the Ludwig von Mises Institute (www.mises.org) and best selling author, provides a succinct explanation of Austrian Business Cycle Theory, which I will attempt to replicate here.   Echoing Nobel Prize-winning economist Friedrich Hayek, Woods begins his explanation by asserting that interest rates play an important role in a free market economy — they coordinate production over time.  When we save more of our income, and interest rates consequently decrease, we send a signal to businesses to produce goods and invest in projects that are going to bear fruit in the future.  Because long-term projects are more interest rate sensitive, lower interest rates provide an incentive to businesses to invest in them.  Also, when we save more of our income today, we are implicitly saying that we are going to consume more in the future.  It’s that future consumption that businesses are investing for today.

Furthermore, when we save more of our income and don’t consume all of the resources that we could today, the unconsumed resources remain available in the economy and provide the material wherewithall to produce future goods and complete longer-term projects.  In the Austrian vernacular, the pool of real savings has increased.

Conversely, when we consume more of our income today and save less, and interest rates increase, we send a signal to businesses to produce goods and invest in projects that are going to bear fruit today.  Higher interest rates provide a disincentive for businesses to invest in long-term projects.  Also, when we consume more today, we will have less available for consumption in the future.  With higher interest rates and less future consumption, businesses invest in the production of fewer future goods and fewer long-term projects.  Consumers prefer to consume today versus the future and businesses prefer to produce for today versus the future.

When we save less and consume more today, we leave fewer resources available to produce future goods and complete long-term projects.  The pool of real savings hasn’t increased and could, theoretically, even decrease.

In either case, if interest rates are allowed to achieve market or “natural” levels and to coordinate production over time, the resulting economic growth is sustainable and there is no boom/bust cycle.  If, however, some exogenous force tampers with the structure of interest rates that would otherwise be set by the market, they can no longer serve their coordinating function.  “Dis-coordination” is introduced into their coordinating function.

Consequently, if a central bank like the Federal Reserve decides to force interest rates down through its open market operations, it sends a misleading signal to businesses about consumers’ true time preferences.  As the Fed drives down interest rates, businesses are led to believe that consumers are saving more today to consume more in the future and that now is the time to take advantage of the lower interest rates and invest in longer-term production projects for new products in the future.  In fact, consumers haven’t said that they want to save more today and consume more in the future.  They may want to continue to consume the same amount as the have been consuming.  They may even demand more of existing goods.

Similarly, just because the Fed has decided to force interest rates down, it doesn’t mean that consumers have released more resources into the economy to complete future production capacity and future production.  As suggested above, people may not only prefer to continue to consume the same amount of resources today, they may want to consume even more.  This creates an unchanged or even shrinking resource pool from which to fund a growing number of new investment projects.

Something has got to give.  The boom in economic growth precipitated by the artificial creation of money and credit and lower interest rates is not sustainable.  The bust is inevitable.  The bust may occur because businesses incorrectly forecasted future consumer demand for the future supply of their products.  As a result, these projects will become unprofitable.  It may also occur because businesses incorrectly forecasted the availability of resources from which to complete their future projects and they won’t be able to complete them.  It can even occur because the Fed decides to reverse its monetary policy — from a “loose” policy stance to a “tight” policy stance — based upon a concern about how the increase in the money supply will affect consumer prices, asset prices or the price of the dollar relative to other currencies.  But occur it must.

Once the bust occurs, the solution is to stop the money creation, allow the market to liquidate the unsustainable projects or “malinvestments”, allow interest rates to return to their natural levels and thereby allow the economy to return to health.

Empirical Data

One way to test the Austrian Business Cycle Theory is to determine whether the empirical data from the Fed’s policy decisions create the boom and bust conditions in the economy that the Theory suggests.  Figure 1  illustrates that the five credit crises and four recessions that have occurred in the U.S. economy since 1975 were all preceded by a period of loose monetary policy, with a corresponding sharp decrease in the Fed Funds Rate, followed by a period of tight monetary policy, with a corresponding sharp increase in the Fed Funds Rate.  A boom period followed by a bust.

Figure 1: Fed Funds Rate 1975 – 2013

Figure 2 supports the assertion that a decrease in the Fed Funds Rate results in an increase in the growth rate of the True Money Supply, while an increase in the Fed Funds Rate results in a decrease in the growth rate — and sometimes an outright decrease — of the True Money Supply.   The concept of the True Money Supply (TMS) was first articulated by Murray Rothbard and represents the amount of money in the economy that is available for immediate use in exchange. It has been referred to in the past as the Austrian Money Supply, the Rothbard Money Supply and the True Money Supply.

The benefits of TMS over conventional measures calculated by the Federal Reserve are that it counts only immediately available money for exchange and does not double count.  Money Market Mutual Fund shares are excluded from TMS precisely because they represent equity shares in a portfolio of highly liquid, short-term investments which must be sold in exchange for money before such shares can be redeemed.  For a detailed description and explanation of the TMS aggregate, see The “True” Money Supply: A Measure of the Supply of the Medium of Exchange in the U.S. Economy by Joseph T. Salerno (Austrian Economic Newsletter (Spring 1987)) and The Mystery of the Money Supply Definition by Frank Shostak (The Quarterly Journal of Austrian Economics Vol. 3, No. 4 (Winter 2000): 69-76).  The True Money Supply data used to create the following graphs were provided courtesy of J. Michael Pollaro, author of The Contrarian Take.

Figure 2: True Money Supply (YOY%) v. Fed Funds Rate 1975 – 2013

Given the strong inverse correlation between the Fed Funds Rate and the rate of growth of the True Money Supply, it’s not surprising that the five credit crises and four recessions that have occurred in the U.S. economy since 1975 were preceded by a period of sharp increase in the rate of growth of the True Money Supply followed by a period of sharp decrease in its growth rate.  Again, a boom period followed by a bust.  In each case, the credit crisis and recessions occurred shortly after the rate of growth of the True Money Supply became negative or began to approach zero.  See Figure 3.

Figure 3: True Money Supply (YOY%) 1975 – 2013

It’s important to note that until the most recent credit crisis and recession, the Fed was able to implement a loose policy stance by simply lowering the Fed Funds Rate.  In the Fall of 2008, however, the Fed Funds Rate began to approach 0%.  To continue to force down interest rates and increase the growth of the money supply, the Fed began to provide loans to key sources of credit and purchase Treasury securities, GSE debt and mortgage-backed securities through its open market operations.  This policy tool is commonly referred to as “quantitative easing” or QE for short.  See Figure 4.

Figure 4: Fed Funds Rate and Federal Reserve Balance Sheet 2007 – 2013

The Fed’s two most recent policy tools, Operation Twist and QE3, were specifically designed to force down long-term interest rates through the purchase of $45 billion of longer-term Treasury securities and $40 billion of agency mortgage-backed securities each month.  On December 18, 2013, the FOMC announced that it would reduce its bond purchases under Operation Twist and QE3 from $85 million per month to $75 million per month, beginning in January of 2014.   Going forward, the FOMC will add to its holdings of longer-term Treasury securities at a pace of $40 billion per month rather than $45 billion per month and will add to its holdings of agency mortgage-backed securities at a pace of $35 billion per month rather than $40 billion per month.  Although the True Money Supply has been increasing during Operation Twist and QE3, it has been doing so at a decreasing rate.  Again, see Figure 3.  The Fed’s reduction in bond purchases will likely cause the growth of the True Money Supply to continue to decelerate and could set the stage for the next credit crisis.