Monday, October 5, 2009

Views on Jobs, and Why "They Ain't Coming Back"


New Jersey's own Bruce Springsteen recorded a hit single in 1985 called "My Hometown." There is a somber verse in it: "Foreman says these jobs are going boys and they ain't coming back to your hometown."

"Jobs" has become a key issue over the last 12 months as it is becoming clearer that they really are not coming back: I think that there simply aren't any new ones, and there won't be for a while.

Most of the discussions have been limited to "wow, look at the numbers" and "look at the graph." I intend to take a deeper, more fundamental look.

Let's discuss some basics before we look at "jobs":

Risking to parrot some macro textbook, in my view, there are three kinds of unemployment. One is frictional: people between jobs, may be moving on to something better, may be relocating, who knows. Happens all the time, especially when the economy is healthy.

The second is cyclical. Cyclical industries create cyclical jobs: a worker can be doing tons of overtime shifts one year, and be laid off for months the next year. Historically, we have had the safety net to tide people over when something like this happens. I see it as an exaggerated case of seasonal unemployment: people are generally aware of it, and plan accordingly. There are no Mister Softee trucks in the wintertime, and yet, every summer, the same guy has his spot near the park. Obviously, he has found a way to cope.

Third, and the scariest kind, we have is structural unemployment: this is when there is a severe mismatch between the opportunities available and the skills of the labor force. Industries come and go: the specialized skills from one are not necessarily transferable to a new one. Sometimes, there even isn't a new one: look at the declines in shoes and textiles for example, or farmers as a % of the labor force over 100 years.

The biggest employment problem in the US, in my view, is structural unemployment, and I will get to weave it in in the broader discussion.

Since we are looking at "jobs," I divide them into two basic categories: private and public sector. A private sector job, in my view, is a better job as it would not likely exist if the employee was not offering a positive ROIC. In other words, businesses would not hire anyone, unless they think they can make more than it costs them to hire that person. Simple logic. Thus, that hired person creates value both for himself (paycheck) and for the employer (profit), and both get taxed. The profit motive (often demonized by the commies as "greed") makes sure that the resources are allocated properly.

The government "jobs" on the other hand, are largely driven by bureaucratic growth and internal department empire-building. The vast majority of these jobs are a net drain to society and to the taxpayers because for the most part they cost more than they bring in income taxes. That is not to say that we do not need policemen or teachers: but by and large, the growth of government employment should be viewed as a net negative. In addition, because of union involvement and other factors, governments at all levels do not manage performance at all, resulting in bloated, inefficient operations. Look at NYC park personnel (why do they move slower than molasses?), look at the DMV, look at state troopers pushing to have a state trooper with the lights in a cruiser at every highway construction site, the prison guard union demanding "tough" sentencing guidelines, and so on. Government employment is supported by the taxation of private employment, and growing government employment means more taxation for the positive ROIC activity that is private employment. As simple as that. And remember that since these groups provide an identifiable voting block, no politician (the people who later vote on local, state and federal budgets) in his right mind is going to say "I think policemen make too much" or "public sector benefits are completely out of line."

Sure, we can reduce unemployment by creating a brand new federal department of paperclip counting, and dispatch a million workers to count and recount the paperclips in every federal building. Boom. Done. We have "created" jobs and "reduced" unemployment. This is what some of our elected reps and unelected experts seem to think. It is obviously absurd, let alone that since the budget has a 40% hole in it, those same elected reps should be looking at how to cut federal employment. Those are pretty expensive jobs to create, while helping private sector employment is actually beneficial.

So back to the more recent news.

The employment situation in the US is bad. Really, really bad. Everywhere one looks, the statistics are frightening. The mass firings have subsided a bit, but there is no hiring (more on that in a second). All UE measurements are through the roof (or through the floor for some). See the slides.

This, in and of itself, is not that scary: yes, there are challenges and it is hard on people BUT the bigger problem is, what is the government doing to address the problem. I wish I could say "nothing." No. It is worse.

My opinion: we have one of the most anti-job creation governments one can think of.

I will list the ways, but at first, I have to walk you through a simple decision model in private hiring. Unlike most talking heads, in another life I have personally hired and managed more people than I can remember so I think I have a better view than "the people who only sign checks on the back," like "The Governator" used to say when he was trying to show off his "real" business experience.

Hiring people is in essence a difficult break-even analysis. One has to make more than the cost in order to "create" a job. More, precisely, the business has to expect that they will make more than the cost of hiring/employing. I can tell you that hiring is both a risky and a costly enterprise, and is done with great trepidation. You have search costs, interviewing, hiring, training, then ongoing salaries and benefits, sick days, personal days, holidays and so on. On top, you have all sorts of risks, underperformance, carelessness/safety, embezzlement/theft, client alienation, sabotage and others. You also run risks from lawsuits for anything from harassment, to discrimination to worker's comp to alleged underpayments to unlawful firing. You get the picture: even in the best of times, hiring is a risky business and is approached with caution. This is particularly true for small businesses-- remember, they are the big job growth drivers-- because a single employee can do a lot more damage than an employee in a 50,000-person organization.

Most financial opinion "drivers" do not realize this because in their world, hiring is relatively safe: they only deal with pedigreed professional people. Let me break the news to you: this is a very, very small sliver of the labor market. You can see that just people with a four-year degree or more account for less than 25% of the adult population (and this includes the many people who have the sheepskin without having attained any substantial educational benefits). Most higher-level finance professionals are either top MBAs and/or top JDs and/or CFAs, which really raises the level. The average GMAT score for a top MBA program is around the 95th percentile: these people are, roughly, in the top 5% of the top 25% of the population that has the undergrad degrees. Similar with the LSATs. I personally do not overweight test scores in vacuum but I think they are indicative. Anyway, back to the "real" job market.

So, how is our government anti-job?

(1) Federal minimum wage: while most "experts" and politicians like jetting around the coastal cities where no one makes under the minimum wage, there are large parts of the country, with lower cost of living and lower average incomes, where a federally mandated minimum wage completely prices out many entry-level candidates. The min. wage is sold as something that "protects" the little people. It does not. It harms them. Need proof? Look at the teenage unemployment rate: record high of 25.6%. Black teenagers, 50%. Again, remember that hiring is a break-even exercise: if the value of what these teenagers provide is less than the min. wage, there is absolutely no way they will be hired.

What most people do not realize is that the minimum wage affects all other employees at the nearby levels: if a business has two employees, unskilled at the old $5.15 min. wage, and one skilled at $7.50 (a 45% premium, to do the math for you), if the unskilled is now artificially mandated to be at $7.50, what would the skilled do? Walk or demand a raise. The skilled should now be at $10.88 if the same skill differential holds. What if the output of the two employees is valued at less than their combined $18.38 hourly rate? One or both are fired, or the business is gone all together. Alternatively, the business can try to hike up prices, which in this economy would be suicidal in many cases.

Has the government done away with the minimum wage? No. They actually increased it on July 24, 2009. How is this affecting jobs? Well...

(2) Health care "reform" and "cap-and-trade"
Without discussing the specifics of either proposal (I might in separate posts), anyone operating a business has realized by now that these are both stealth tax increases, HC particularly a tax on employment. The HC reform will likely make providing coverage mandatory while it will likely do nothing at controlling costs (including limiting malpractice awards or reducing demand by people who get HC absolutely for free). "CaT" will transfer money from businesses and average citizens to financial institutions and incumbent polluters. The bite of these taxes is not known, and, more importantly, will be known only in retrospect.

Again, remember hiring is a break-even analysis. If a business does not know the cost part of the break-even analysis, how can it do it? It can't.

So businesses are not hiring, and will not be hiring until there is some clarity on the impact of these stealth taxation proposals. The costs will be known only after the initiatives are enacted, which means years.


(3) Underfunded promises and budget deficits
Most people, in my view, do not fully realize the actual monetary cost of employment. Employers do not pay just the agreed-upon rate. Employers also pay "payroll taxes" just like the employee, and pay a lot in benefits (from vacation accruals to health insurance premiums).
Due to our governments' profligate promises and spending over the years, the government is now not only broke, but cannot even find enough people to loan it money, so Zimbabwe Ben is printing the cash to cover the current spending costs. Anyone smart enough to run a business employing people knows that there will be higher taxation in the future, including a very likely hike in "payroll taxes" for both the current spending and the promises that will be coming due because of the population aging. But when and by how much? Who knows. What does this mean?

Very simply, again, no hiring because an employer has no clear view of the longer term employment costs.

(4) Labor unions
Labor unions are bad for new job creation and provide no real job protection. This is a two-pronged statement, so let's look at the second part first. There are no successful unionized industries in the US: autos, steel, airlines, you name it. Why? A union generally is of no help when the business fundamentals of a certain industry deteriorate so much that one or more players in the industry have to liquidate, or go through a substantial restructuring. UAW's membership in the 1970's topped 1.9 mm workers, while now it is under 500k. This is a 75% loss for the mathematically challenged. Of course, non-union auto employment in the South has grown.

Now on to the more important point: labor unions are bad for new job creation. Remember that people are greedy under any circumstances. Labor unions act as a fixed cost during tough times because contracts limit layoffs, and act as a variable cost during good times because they often strike and demand higher wages at the top of the cycle. In other words, they want only upside with no downside.

So if I were making a decision to deploy capital somewhere (for the finance types, this means actually building a factory or a distribution center or other real "things"), I would definitely take a hard look at the dangers of being unionized in the future. This means, in part, looking at local and federal laws, as well as the administration stance.

Does Obama have the big unions on his speed-dial? Yes. Is the "card-check" legislation likely to pass? Probably. What does it mean for job creation? Bad news, again, folks.

(5) Government-created structural unemployment
This works on several levels.
On the macro level, by blowing and trying to reinflate various bubbles, the government (I am including the so-called "independent" Fed) is sending the very wrong signals to the labor force. Recently we observed the expansion and the collapse of the so-called FIRE economy (Finance, Insurance, Real Estate). The bubble had been sending the wrong signals about the employment opportunities in these areas, so we had a lot of people going into the FIRE, thinking it is for real: builders/trades, agents, mortgage brokers, assessors, and so on. The bubble popped, and what do we have?
Huge malinvestment in housing, and a huge malinvestment in human capital.
This means that the bubble created structural unemployment as the skills required for the bubble are no longer, and will not be, in demand. The adjustment process is pretty painful.

On another level, I think we have the next subset of structural unemployment already baked in. Every communication coming out of the brilliant, well-fed statisticians at the BLS is encouraging people (and educational institutions) to get into...health care. How come? Well, I am not sure how the BLS projections work, but it seems to me that they are using some straight-line extrapolations based on the demographic changes, so they are projecting huge future demand for the likes of home healthcare aides, nursing assistants, medical assistants and the like semi-skilled medical occupations.

The only problem with it? There is no one to pay for it. The baby boomers have not saved enough to afford it on their own, and the government won't be able to afford it either very soon. As it is, health care is a way bigger part of the economy vs. other OECD countries, and I think the days are coming (call it 5-10 years) when instead of starving real estate agents and mortgage brokers, you will have unemployed nurses and the like. I think Jim Chanos has publicly come out with a similar thesis regarding health care stocks, so to me, its extension into health care employment is only logical. We might be witnessing the next malinvestment in human capital.

The third way the government creates structural unemployment is via its involvement in higher education.
I think it should be obvious to anyone that the rising cost of higher ed is directly linked to increases in grants and loans via the federal government. But there is another problem: by providing funding on an equal basis to anyone, regardless of both intended majors and personal intellectual potential. This makes it easier for students, especially first-generation, lower-potential students to major in non-challenging majors, making them absolutely unprepared for a normal, productive college-level entry job. The same can be said about loan availability for almost any of the non-top-14 law schools, where people end up in some basement as J.D. doc reviewers.

So we have a government creating, aiding and abetting structural unemployment, even with the best intentions like "educating people" and "supporting the economy."

(6) Restrictions on high-end immigration
Most OECD countries, including our Northern neighbor, have "brain drain" programs in place that aim to attract high potential, educated professionals in their workforces. Most work under some sort of a point system: I am fairly familiar with the Canadian, Australian and UK systems. They basically ensure permanent residence, including the ability to switch employers any time, to high potential educated immigrants.

Here not only we do not have that, we have H-1B, which has absolutely random quota limits set by our bright congressional leaders, and also, restrict labor mobility severely for the employee. In addition, once the two three-year terms are through, the employee has to leave. In other words, the six years count for nothing, they do not lead to permanent residence.

How is this affecting the labor market?
One, they make the high-potential, high-earning people avoid the US because they do not have legal status clarity via the most common work visa program.
Second, and more important, the high potential people cannot start their own businesses (and sponsor themselves for permanent residency), which means that there is a lot of lost potential simply due to stupid immigration policies.

What does this mean, in laymen terms?

The next Google and Microsoft will NOT be located in America, which means that the next generation of high-quality employment opportunities will NOT be here.

On the flip side, we have had a practically open-door policy for low-end immigration. While many of those workers are enterprising, and open their own businesses, the next Google and the next Microsoft will not come from a corner bodega, a landscaping business or a drywall crew. In addition, the flood of illegals hurts the employment of the lower-skill native citizens. On top, the social cost of this kind of immigration is immense (schooling, health care, incarceration).

I, personally, have nothing against illegals: at one time, years ago, I ended up working on an industrial construction site with a mix of Mexican crews and locals. The locals could not bear the hard work, and dropped out within a week, while the Mexicans kept chugging along in the unforgiving heat day after day. So I have personally witnessed the truthfulness of "jobs Americans don't want." It also seems to me that any major city would shut down without its recent arrival population: how we ended up there is OUR problem, not their problem.

What is the conclusion? We are chasing away the high-end human capital, and we are inviting the low-end human capital.

The immigration policies of the US have hurt, are hurting and will continue to hurt employment levels in the US by chasing away high-potential migrants and by inviting low-skilled labor.

(7) Inflation or deflation?

If there is high inflation (which will be first displayed in high commodity costs- might already be happening), then hiring will be muted because of the cost uncertainty. Inflation is very destructive to businesses as costs and customers behave unpredictably, and common forms of financing disappear. Inflation hurts hiring.

Deflation can mean declining sales, while many costs (i.e. interest) remain fixed. This crushes margins, and forces employers to reduce variable costs as much as possible. This means layoffs, not hiring.

So to summarize (1) through (7), THE JOBS AIN'T COMING BACK.

The only thing that can help us is some productivity advancement, like the internet or mobile communications. What could it be? I do not know: decentralized power generation, new models of personal transportation, nanotechnology, genetically-driven medical care, etc. Instead, what "jobs" is the government "protecting": the bubble-era jobs and the dinosaurs.

As an addendum, here are a few relevant slides as to "how bad it really is" and how the mass media - guv PR complex (the "professionals") treat the populace like mushrooms (that is, kept in the dark and fed manure).

Note the following: the stimulus is a fail, hours worked (=output) is tanking, unemployment duration is stretching, ratio seekers to jobs is extraordinarily high, etc., etc., etc.) Look at each one carefully, because they will give you a fuller picture of what is happening. Because if you have to create a web site called "recovery.gov" means you have a big, big problem.

Update 1 10/07/2009: The NYT has a good write-up of an idea that has sprung up recently: payroll tax cuts for businesses that are hiring. All of the counter-arguments are valid. A tax cut will not help hiring much because hiring is a break-even analysis. The cut would be temporary. Funny how the UE rate has the White House talking about tax cuts of all things.
Having a payroll tax cut is like using bandaids to cure cancer. The government needs to address the fundamental problems that I list above in order to reduce the long-term economic/business uncertainties.
I have some other thoughts on a possible tax-cut for hiring companies:
(1) Larger employers are better equipped to capitalize on every freebie that comes down from the taxpayer. Since they have the big payroll processing systems in place, they will be able to capture most of the cut.
(2) Employers with high employee turnover will likely benefit more as they hire anyway. Think McDonalds or Walmart: even now, I am sure they hire quite often as the nature of their workforce can be transitory.
(3) The tax cut is quite blindly targeted at "jobs." This inherently favors low-skill, labor-intensive operations (retail, restaurants) and disfavors highly automated or sophisticated scalable businesses, as they can grow without adding labor.

Update 2 10/9/09: The Peridot Capitalist agrees with the idea that tax breaks for hiring won't really work. He says that a break won't make an employer hire unless the "real" need to hire is there.

Update 3 10/18/2009: Now "Obama is looking at all options for creating jobs..." Of course, see the graph on top: the stimulus failed, so they want to do another one. It is very clear to me that "job creation" is beyond the comprehension of Obama and his economic team. Jobs are a derivative of a healthy economy. The economy is a self-correcting organism that needs good conditions to grow: stability/predictability, rule of law, access to capital, property rights, low taxes, low regulations and so on. One of its outputs is jobs. The Obama team is doing everything possible, unknowingly- I hope-, to destroy the conditions that help the economy grow! And then they wonder why there are no jobs. You can't have sustainable job growth by shooting the moribund corpse with ever-larger amphetamine doses!

Update 4 10/23/2009: Here is a good interview with Steve Wynn in part about jobs. Unlike most CEOs who are completely PC (if you're not PC in most of the corporate world, you get kicked out pretty quick), Wynn recently said he feels better about doing business in China. This is a very important statement. Now in this interview, he discusses jobs: "The growing deficit and broken tax policies are killing job creation and causing long term damage to the middle class of the US, Steve Wynn, chairman and CEO of Wynn Resorts, told CNBC Friday.

“If we continue to allow the economy of America to suffer from deficits, then every single working person in America will be damaged,” said Wynn.

Current government policies do not focus on job creation and only increase the national debt, sending a message to the American public that the future is bleak, said Wynn.

Update 5 11/13/2009: Here are a couple of great pieces. One, Emerson Electric CEO: "Washington Is Destroying US Manufacturing", a sad, but good read. The second is from Peter Schiff: he echoes a lot of what I said, with good additions that I wish I had come up with.


Special thanks to The Pragmatic Capitalist, Ritholtz, Clusterstock, Seekingalpha, Market ticker, and American Thinker for the graphs.










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