Charles Wilson, former CEO of General Motors before becoming Defense Secretary under President Eisenhower, once famously quipped that “what is good for the country is good for GM and vice versa.” While the veracity of that claim has been challenged, the fact of the matter is that since the Great Financial Crisis, the auto sector (not just GM) played an important role.
The Federal Reserve helped jump start the asset-backed securities market with its purchases, and this helped facilitate an increase in US light vehicle sales. Consider that in 2009, the US sold about 10.43 mln cars and light vehicles. It was the lest since the early 1980s. They peaked last year just shy of 17.5 mln. According to an economist at Brookings Institution, auto-related jobs accounted for 60%-80% of the manufacturing jobs created since the crisis.
It was a virtuous circle. With the help from the federal government, which assisted the restructuring of GM and Chrysler through bankruptcy, and the Federal Reserve through the buying of asset-backed securities and low interest rates, the auto sector recovered. Workers were hired, and cars were bought.
The risk is the cycle is reversing. Sales have fallen in five of the first seven months, and there has not been a single month in which sales surpassed year ago figures. Auto sales rose in July for only the second month of the year, but the 16.69 mln seasonally adjusted annualized rate was more than a million lower than the units sold in July 2016 (~17.75 mln).
Light vehicle production is set to decline, and this means more layoffs, and that in turn, creates few customers. GM announced in North America it would produce 150k fewer vehicles in H2 than it did in H1. Its inventory levels are high are around 104 days of sales. It wants to bring this down to 70 days by the end of the year. Ford says it will cut Q3 output by 34k vehicles. Shifts are being reduced.
There is a shift in consumer preferences away from passenger cars, and toward SUVs and light trucks, but the slowdown in sales is significant. GM sales in July fell 15%, which is the steepest decline in over a year. Ford’s decline was the sharpest since last October. Fiat-Chrysler sales posted the second largest drop of the year. An important takeaway here is that the auto sector will likely be a drag on the industrial production and manufacturing output. It cannot be counted on a tailwind for the labor market.
The main challenge with the US labor market is not job creation. Although the pace of jobs growth has slowed, it remains sufficiently strong to absorb more slack in the labor market. In 2016, the US created an average of 187k net new jobs a month. In H1 17, it created 180k a month. The problem for many American households and the Federal Reserve is that wage growth remains meager.
From the Fed’s point of view, headline inflation converges to core inflation, and core inflation converges to wage growth. The weak wage growth is an obstacle to the achievement of the Fed’s inflation target. There are many factors that shape the labor market. One of the important ones that suggest that wages may not be rising because of slack is the participation rate. The participation rate of men has fallen, and recently Yellen drew attention to the opioid problem. The US is also one of the few countries in which the women participation in the labor force is also falling.
We have discussed research that found that composition of the labor force is acting to curb wage growth. New entrants into the labor force, students and formerly unemployed, do not command high entry wages, while high earning baby boomers retire. Recent research by a few academic economists found that a typical 21-year old’s annual earnings in 2013 were nearly a third less than the typical 21-year old employee in 1969.
We are also interested in the concept of “monopsony.” If a monopoly is a single seller, a monopsony is a single buyer. The idea is that in some places, like in a town dominated by an auto or an auto parts company, or a mine, there is little competition among employers and little choice for people seeking work. This serves to keep wages down. We will write about it later, but let us pique your interest in another angle of this over-determined problem. Wages and benefits vary considerably between companies. Just like the dual economy (core large and oligopolistic and periphery small and competitive) was mapped out, some work suggests a new dual economy is emerging, and those who occupy the new commanding heights are seeing productivity rise and wages increase.
On the other hand, it is a relatively new phenomenon for central bankers to advocate the need for higher wages. This is true not only of the Federal Reserve, but also the BOJ, the ECB, BOE, and Bank of Canada. The disparity of wealth and income has emerged as a potent political issue across the political spectrum. However, governments are stopping short of help strengthen the only institutions whose raison d’etre is boosting wages and living standards: trade unions. This is not an ideological claim but a pragmatic one.
It is a page from the New Deal playbook that many are ignoring and then are puzzled way wages are not rising faster. Wages do not rise because employers are generous. Nor do they rise simply because productivity rises. Wages go up when employers have no choice but to pay more to secure a stable work force, and frankly, they still have a choice for the most part. The earnings component for the July employment report may be more important than the actual number of new jobs created, within reason.