Five years after the Great Financial Crisis (GFC), despite improvements in GDP growth and employment, the U.S. public still seems to be oppressed by a cloud of negative sentiment. A recent PewResearch Survey found that a majority of Americans still perceive the economic climate as poor or fair at best (83%), a level still far below pre-crisis sentiment. Mike Temple, portfolio manager of the Pioneer Dynamic Credit Fund, explains the reasons for this pessimism.
In the eyes of many, a freight train of seemingly unsolvable problems –cost and quality of education, income disparity and structural unemployment– is leading to an accelerating decline of the U.S. and a possible near-term repeat of the GFC that ravaged investor portfolios. “We don’t deny that many daunting challenges lie ahead. But dynamic, longer-term trends are opening up entirely new avenues of invention and industry, which could potentially usher in an era of stunning growth and prosperity. We are optimists and think it is time to step back from the fear and uncertainty that currently characterizes the public mood and explore these trends, their impact on the economy and their implications for investors”, said Temple.
The Root of The Problem: What Happened to the Jobs?
“We believe much of the pessimism is rooted in the challenges that the labor sector is facing. The chart below provides evidence that the rate of recovery in employment, in the last two recessions, has slowed dramatically, which has led to a national debate as to whether the rise in unemployment is structural (permanent) or merely cyclical”, affirm the portfolio manager.
The Federal Reserve believes that the U.S. unemployment story remains largely cyclical (translation: all we need is a robust recovery). Some distinguished voices suggest that we have entered an era of “stagnation” and need to lower our expectations, said Temple, believing the employment challenge is evidence of an economic malaise brought on by an era of diminishing innovation and demographic headwinds. “While we agree with the Stagnation argument that the demographic tailwind of the Baby Boom era is behind us, we are convinced that the longer-term employment problem is linked to the technological replacement of human workers“, says Pioneer Investments research.
The Weak Employment Cycle Began a Long Time Ago
The weak employment cycle began a long time ago with the deceleration of the labor force growth driven by secular trends, which is the foundation of the Stagnationist argument – demographics, including retiring baby boomers, female labor and immigration.
The “participation rate” (the share of the working-age population that is actually in the labor market) has been on the decline since 2000 as more people retire and leave the workforce. However, it is the younger population and the most productive sector of the workforce (25-54 year olds) that is the key driver. This segment should be the most resilient to cyclical and demographic trends, but it has clearly suffered a setback.
From Geographical Outsourcing to Technological Outsourcing
Growing competition from China is one reason for structural weakness in the U.S. job markets, explain Temple. Relocation of manufacturing to areas of the world, where labor was dramatically cheaper resulted in a loss of jobs in the U.S. Despite losing 7 million manufacturing jobs over three decades and manufacturing declining as a percentage of GDP (currently 13%, down from high teens in 1990’s), the absolute size of manufacturing output still grew. Other major sectors such as Construction, Mining, and Information have also experienced a broad decline since the beginning of the 21st century.
“Yet over this time frame, the economy has continued to grow. What gives? We believe that the geographical labor arbitrage that took place in the manufacturing sector over the past 25 years masked a wider phenomenon of technological labor arbitrage. And it is technological arbitrage – which we will examine in our next blog – that will dramatically shape th U.S. economy in the coming decade”, concludes Temple.
For Funds Society, Madrid