The Bureau of Labor Statistics just released the jobs report for June. The economy added 372,000 new jobs. That kept the unemployment rate at 3.6%, which is considered full-employment. This reasonably strong report means that the current recession will be mild, although it will last a bit longer than had originally been thought.
In about three weeks, the government will release the first estimate for gross domestic product (GDP) growth for the second quarter of this year. Even though the economy added an average of 386,000 jobs per month, in the second quarter, GDP likely declined. Since GDP declined 1.6% in the first quarter, even though nearly 600,000 jobs were added monthly, the economy will officially be in recession.
The classic definition of a recession is two successive quarters of negative growth in GDP. However, it is the National Bureau of Economic Research (NBER) that officially declares a recession in the U.S. Its definition includes a significant increase in the unemployment rate. Because of the labor shortage, the unemployment rate will rise only modestly.
Stagflation Is Undeniable
Still, even if a recession isn’t officially declared, the stagnant growth coupled with extremely high inflation is a condition economists refer to as stagflation. There is no argument about this. In the first half of this year, the economy has definitely stagnated.
The Consumer Price Index (CPI) for June will be released early next week. That will show about a 0.8% increase in prices, which will raise the 12-month inflation rate to nearly 9%. That’s the highest rate since 1981. The stagnant economy with near record-high inflation equals stagflation.
Because there are currently about 11.3 million job openings and less than 6 million unemployed people, the unemployment rate will not rise significantly during this recession. Instead, the number of job openings will fall dramatically. Already, that number has fallen from the high of 11.9 million job openings in April to 11.3 million in June.
The small increase in the unemployment rate is generally good news, but it will present challenges when dealing with inflation. That means the Federal Reserve will have to remain aggressive with its interest rate increases throughout the rest of this year and into 2023.
If the unemployment rate did increase, as it usually does during recessions, personal income would fall. That would reduce total demand in the economy, which puts downward pressure on prices and reduces inflation.
In past recessions, increases in unemployment have reduced inflation very efficiently and very quickly. In this recession, inflation is bound to remain high well into 2023. Since the Fed’s interest rate increases will continue, stagflation will also last well into 2023, meaning the economy will continue to see little or no growth, and inflation will remain higher than the target set by the Federal Reserve.
At this point, there is little that the current administration can do to solve the problem. Actions taken to increase demand to spur more growth would only cause inflation to rise. Actions taken to reduce demand to bring down inflation will cause growth to slow.
There is, however, one way to solve both problems.
Supply-Side Economics
The government policy should be geared toward increasing total supply. That would increase total output to enable the economy to grow and climb out of a recession. Also, the increase in supply would put downward pressure on prices and reduce inflation. This administration, however, will not consider supply-side policies. Instead, the Biden administration is, indeed, considering taking actions that would actually reduce total supply.
Supply-side policies would include lowering taxes to create more capital to fund expansion and reducing counter-productive regulations to make it easier for business to expand.
The Biden administration continues to add new and burdensome regulations which only slow businesses’ ability to grow. Worse, President Biden’s party wants to reduce capital formation. This, coupled with the huge public debt, will zap capital from financial markets, perhaps creating a capital shortage, which would seriously slow growth in a capital-intensive economy.
Just yesterday the Democrats announced a plan to raise taxes on the wealthy to help fund Medicare. Raising taxes on the wealthy will reduce their savings and reduce capital formation.
The bad news is that the economy is stagnating (and probably regressing) while inflation remains high, meaning we are in a period of stagflation. The good news is that the recession will be relatively mild.
