The economy is a riddle, but clearly it’s having a harder time rebooting itself than had seemed possible in the spring.
Here’s a riddle: What is both too hot and too cold? The answer: the United States economy in the summer of 2021.
That is the common thread that comes through in economic data; shifts in financial markets; anecdotes from businesses; and experiences of ordinary people who are simultaneously enjoying higher incomes and facing higher prices and shortages.
In the mid-2021 economy, employers are offering higher pay to attract scarce workers; airports and car lots are bustling; and a G.D.P. report due out next week will probably show blockbuster growth. It is also an economy in which inflation is outstripping pay gains for many workers; the share of the population working remains far below prepandemic levels; and bond markets are priced at levels that suggest a high risk of returning to sluggish growth in the years ahead.
Essentially, the economy is having a harder time rebooting itself than had seemed likely in the heady days of spring, when many Americans were getting vaccinated and stimulus payments hit checking accounts.
The Biden administration and the Federal Reserve are betting that they can achieve a smooth transition to an economy that enjoys prosperity without frustratingly high inflation. But for that to happen, a huge mismatch — between economywide demand for goods and services, and the supply of them — will need to be resolved. It’s not clear how long that will take.
“I think we should have expected there to be frictions in getting the economy reopened after this unprecedented shock,” said Karen Dynan, a Harvard economist and a former official at the Federal Reserve and Treasury. “We’ve seen serious frictions, and it’s totally reasonable to expect those frictions to continue.”
Consumer demand for goods, and increasingly services, is exceptionally high, as Americans spend their pent-up savings, government stimulus payments and higher wages. Retail sales were 20 percent higher last month than in June 2019.
But businesses have had a harder time increasing production to fulfill that demand than forecasters were expecting in the spring. This has been particularly glaring in the case of cars, where a shortage of microchips has constrained production.
But supply shortages are evident across all sorts of industries. The latest survey of manufacturers from the Institute for Supply Management cites complaints from makers of furniture, chemical products, machinery and electrical products about the difficulties of fulfilling demand.
That is generating price inflation steep enough to make it ambiguous whether wage increases are truly leaving workers better off. Average hourly earnings in the private sector rose slower than the Consumer Price Index in each of the first six months of the year.
Because of the unique circumstances of the post-pandemic reopening, those numbers most likely understate the pay increase a typical worker has experienced, but the gist is clear: Workers are gaining higher wages, yes, but also paying more for the things they buy.
Much of this appears to be “transitory” inflation pressures that are set to diminish, and in some cases reverse. Bottlenecks are set to resolve — lumber prices have fallen sharply in recent weeks, for example, and used car prices may finally be stabilizing at high levels. But there are also slower-moving effects that could reduce a dollar’s purchasing power for months to come.
Rents are starting to rise sharply, according to a range of data sources. And businesses facing higher prices for supplies and labor may be in the early stages yet of passing on those higher costs to consumers. The Producer Price Index, which tracks the costs of the supplies and services that companies buy, rose 1 percent in June, an acceleration from April and May. This is a signal that inflationary forces may still be working their way through the economy.
“We call it a whiff of stagflation,” said Paul Ashworth, chief U.S. economist at Capital Economics, using the term for a combination of stagnant growth and inflation. “Real growth isn’t weak, but it’s just not as strong as we thought it was going to be. There was a lot of optimism, and now things are coming back to earth a little bit.”
The labor market is the clearest example of a market that is simultaneously too hot and too cold.
Businesses are complaining of labor shortages and offering all kinds of inducements to attract workers. Yet the unemployment rate is a recession-like 5.9 percent. And the share of adults in the labor force — either working or looking for work — has been essentially flat for months, failing to make clear progress to return to its prepandemic level. It was 63.3 percent in February 2020 but has bounced around between 61.4 percent and 61.7 percent for more than a year.
Individuals may be making rational choices for themselves not to work. Older workers may be retiring a few years early, for example, or families may be deciding to get by on one income instead of two. But in the aggregate, the depressed levels of labor force participation will limit the productive potential of the economy.
Hanging over it all is great uncertainty over whether the Delta variant of the coronavirus will create a new wave of disruptions to commerce — both domestically and overseas in places with less vaccine availability. That concern has helped cause big swings in global financial markets, which are increasingly priced in ways suggesting the years ahead will be less the roaring 2020s and more similar to the sluggish 2010s.
In the first three months of the year, longer-term bond yields soared and the yield curve — which charts the difference between shorter-term and longer-term interest rates — steepened. Those both tend to be indicators that investors expect higher growth rates ahead.
That has reversed in recent weeks. The 10-year Treasury yield was 1.22 percent Tuesday, down from 1.75 percent at the recent high at the end of March.
Where does all that leave the too-hot, too-cold U.S. economy? A lot of work has been done to enable the economy to reopen, and there is no shortage of demand from Americans who are feeling flush. But until the economy can find a new equilibrium of prices, wages, output and demand, things aren’t going to feel just right.
Economic Growth Looks Good For Now, But Families Need More – Forbes
The economy is in a good spot right now, but Congress needs to act quickly to strengthen the recovery further. Millions of people are still looking for a job and face financial hardship such as evictions without continued strong economic growth. At the same time, the pandemic has changed face again with the Delta variant ripping through the country, creating a lot uncertainty over the future path of the economy. Amid these challenges, Congress can enact additional measures to ensure a continued strong recovery that benefits all households.
The economy grew at a strong pace in the first half of 2021. Gross domestic product (GDP) growth amounted to an annual rate of 6.5% between March and June 2021. This was slightly faster than the already fast annual growth rate of 6.3% in the first three months of 2021. GDP in the second quarter of 2021 had finally caught up to and exceeded, by about one percent, the inflation-adjusted GDP level recorded for the last three months of 2019 before the pandemic started. The accelerated recovery in the first half of 2021 helped to regain the losses of economic activity associated with the pandemic faster than would have otherwise been the case.
Faster economic growth in the first half of 2021 came about in large part because of President Biden’s American Rescue Plan enacted in March 2021. Gross domestic product has exceeded what analysts forecast for 2021 prior to passage of the American Rescue Plan, for instance. In particular, Harvard University’s Jason Furman, former chair of President Obama’s Council of Economic Advisors, and Wilson Powell III report that the U.S. economy grew as much in the first half of the year as analysts had predicted for the entire year 2021. The massive relief bill enacted in March did exactly what it was supposed to do by putting the economy on a path to a quicker recovery, while helping struggling families deal with the ongoing fallout from the pandemic.
The economy still has room to grow in the short term. Supply chain bottlenecks in particular held back economic activity in the spring of 2021. Businesses, for example, depleted inventories as they often found it difficult procure intermediate and final products to sell. The depletion of inventories reduced economic growth by 1.1 percentage points. GDP growth would have been 7.6% instead of the reported 6.5% between March and June 2021 if businesses had not reduced their inventories. Similarly, new housing activities fell amid lumber and other material shortages, reducing GDP growth by another 0.5 percentage points. As supply bottlenecks gradually ease, the economy will likely overcome some of these headwinds and boost growth.
This short-term momentum will not be enough to address the looming challenges. Congress still needs to invest more in a prolonged strong economic recovery that benefits all American families, even in the context of these recent good news. First, millions of Americans are still out of work. Second, the economy would have likely grown after 2019 absent the pandemic and thus need to go some ways to catch up to where it would have been. The Congressional Budget Office predicted in January 2020 that the economy would be 1.8% larger in the second quarter of 2021 than it actually was. Third, modest productivity growth and massive inequality marked the economic performance prior to the pandemic. Households struggled with paying their bills, even amid low unemployment before the pandemic hit. Building on the current strong performance to ensure a continued robust recovery also means correcting these imbalances that persisted after the Great Recession from 2007 to 2009. Congress’s work in building a strong, inclusive recovery is not yet done.
Passing the Bipartisan Infrastructure Framework (BIF) currently making its way through Congress and the $3.5 trillion budget resolution are key to achieving robust, equitable growth. Those measures will provide public investments in a wide range of infrastructure that has been neglected for too long and that the private sector will not fully finance. Roads, bridges, and access to affordable internet are just some of the investments that will translate into faster innovation, lower costs and higher productivity and economic growth. Congress will also tackle climate change and thus reduce costs of extreme weather events for people and businesses. Lower costs will again translate into faster economic growth over time. It is good to know that the administration and many members of Congress understand that their work is not done with two quarters of remarkably strong growth. American families have waited too long for a return to strong, inclusive long-term economic growth.
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