It didn't take Brexit to make forecasters take a dim view of the future of the U.S. economy. A cloud considerably larger than a man's hand hovered over the computers of most forecasters before Brexit shocked markets into a deep but transient swoon. The Federal Reserve Board said it dare not raise interest rates a trifling 0.25 percent lest it slow the sluggish recovery. The International Monetary Fund lowered its forecast for this year, and now expects the U.S. economy to grow more slowly this year than last. Economists polled by the Wall Street Journal raised their year-end forecast that a recession will occur this year from 15 percent to 21 percent, with the J.P. Morgan Chase model putting that probability at 36 percent.
Some of the gloom stemmed from last month's weak jobs report. Some stemmed from a belief that recoveries eventually die of old age, making the current 72-month old recovery long-in-tooth when compared with the 58-month average in the post-WWII era. But one month's jobs data do not a trend make, as we are likely to learn when the next report is released On July 8, and recent research suggests that, unlike our knees, hips and cars, recoveries do not become more likely to break down the older they get.
But they are susceptible to what are called "shocks", of which Brexit certainly qualifies as one. The decision of Britain to exit the EU has caused a flight to safety, which means a stronger dollar, to the consternation of our exporters and to firms here that compete with imported goods that will now certainly be cheaper. It has also produced that bugbear of markets, "uncertainty", which might cause businessmen, already reluctant to make new investments in productivity-enhancing plant and equipment, decide to go golfing or fishing for the summer, or nip over to London for a bit of strong-dollar shopping, putting any expansion plans on hold until the dust clears. Of the specific sectors affected, perhaps insurers are the hardest hit, since Janet Yellen and her Federal Reserve Board colleagues on the monetary policy committee will now almost certainly postpone any increase in interest rates into 2017 or, some say, 2018. That makes it more difficult for insurers to generate adequate returns on their multi-billion dollar investment portfolios.
The good news is that all in all Brexit is unlikely to have much effect on the US economy. Economists at Goldman Sachs say they now see slightly lower economic growth—2.0 percent instead of 2.25 percent in the second half of this year, but given the, er, inherent fallibility of forecasts, that is not a consequential change even if proven accurate. In fact, if Brexit keeps interest rates here lower than they would otherwise have been, mortgage rates will remain low, stimulating the housing and auto manufacturing industries among others. As for investors, one says he wishes there were a Brexit every month so he could buy at the lows and make huge profits as calm returned to markets.
The bad news is that the U.S. economy was not in great shape before Brexit. The unemployment rate is a low 4.7 percent but in part because so many workers have dropped out of the labor force. The overall labor force participation rate has dropped from 65.7 percent to 62.6 percent since the end of the recession, which is unusual for a recovery. One in every six American men without a college degree neither has nor is looking for a job. And the participation rate for "prime-aged men" (25-54 years young) declined steadily since well before the recent recession. A new White House study reports that the labor force participation rate of this group is the third lowest among the 34 developed nations that are members of the Organisation for Economic Co-Operation and Development (OECD).
These are the core of the Trump army of the disaffecteds. They believe that their manufacturing jobs have been shipped overseas by corporations benefitting from poorly conceived trade agreements. Recent academic studies lend support to their grievance. Many, especially coal miners, know that their jobs have fallen victim to the administration's effort to kill the fossil fuels industries, and that no effective provisions have been made to help them relocate or retrain. So start the list of anti-growth villains with free trade and the costly regulatory agenda of the Obama administration, some items of which were ruled unconstitutional by the courts last week.
Move on to an interconnected set of forces, the combined effect of which is to produce gale-force headwinds preventing the economy from moving forward more rapidly. Falling profits worry the Right, rising inequality worries the Left. The Right wants to cut taxes on profits to encourage investment, the Left to raise taxes on the wealthy to reduce inequality. Democratic claims that all of the benefits of the recovery have ended up in the pockets of the top 1 percent of the population exaggerate the situation. In fact, the upper middle class, annual incomes between $100,000 and $350,000 for a family of three, has more than doubled since 1979 and now constitutes some 30 percent of the population, compared with 13 percent in 1979. The share of the population earning more than the upper middle class has not grown, remaining stable at 1 percent/2 percent according to studies by Stephen Rose, an economist at the Urban Institute.
That said, the rising share of national income going to the better-off might be a drag on consumption. After all, poorer households have a higher "propensity to consume", than do more affluent families. That added spending, say critics of the current income distribution system, would encourage businesses to invest more in plant to meet the larger demand, which in turn would create jobs, which in turn would add to tax revenues that could be used to build infrastructure that would reverse the decline in productivity that is holding back a rise in living standards.
In short, the economy's thigh bone is connected to its hip bone, its hip bone is connected to its back bone, and so on, if not in the words of The Lord, surely in the words of Lord Keynes and, more recently economist Larry Summers. The task for the chiropractor attempting to get the economic body in shape for a dash for growth, say at 4 percent, rather than its current slow, 2 percent stroll, is to manipulate all of the economy's parts so that they interact comfortably and profitably for the economy as a whole.
Not all is gloom. The index of manufacturing activity is at its highest level since February of last year. Last month existing home sales hit a nine-year high, prices rose to a new peak, and mortgage lending picked up. Retail sales rose in April and May. The percentage of Americans with subprime credit scores is at its lowest level in a decade, meaning consumers have more borrowing power. Wages are rising, if only modestly. The nation's banks have come through the latest stress tests with flying colors.
The good news is that every one of our problems can be solved by the adoption of sensible economic policies: improve education by reining in the teachers' unions, stimulate investment by boosting demand and lowering corporate taxes; dialling back on costly regulations. The bad news is that it would take the adoption of sensible economic policies to solve these problems.