Uncertainty about uncertainty

One of the hotly debated issues among those debating policy in the pages of various Fed publications (virtual and otherwise) is why job creation in the United States cannot seem to break out of its sluggish mode. One potential source is an elevated level of uncertainty about the political and economic future that is damping business enthusiasm for risk and, consequently, holding back the expansion.

Heightened uncertainty as an impediment to growth has intuitive appeal to many and, in our Reserve Bank's experience, considerable anecdotal support from business contacts. Unfortunately, intuition and anecdote don't quite rise to the level of evidence. Fortunately, the work of uncovering the evidence (one way or the other) is under way. One example is a recent entry by Mark Schweitzer and Scott Shane in the Federal Reserve Bank of Cleveland's Economic Commentary series:

"In this Commentary, we empirically examine the hypothesis that 'policy uncertainty' adversely impacts small business owners' expansion plans. To do this, we looked at the statistical association between data on small business plans to hire and make capital expenditures and a measure of 'policy uncertainty.' The data on small business plans cover January 1986 through July 2011 and were collected by the National Federation of Independent Business (NFIB)."

The picture relating the claims of respondents to the NFIB survey and the uncertainty measure employed by the authors is pretty compelling:

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The correlation that can clearly be seen in this chart survives more formal statistical analysis:

"We find statistically significant negative effects of policy uncertainty on small business owners' plans to hire and make capital expenditures over the 1986 to 2011 period. We also find a large effect of the economic downturn on small business plans, but the two effects do appear to be independent. The negative effects of policy uncertainty show up even when we weight the components of policy uncertainty in several different ways. The results also stand up when consumer confidence is controlled for, suggesting that the effects are distinct from consumer sentiment."

The authors note the appropriate caveats but are pretty clear about how they read the results of the analysis:

"While this statistical analysis is informative about the relationship between policy uncertainty and small business expansion plans, we cannot say that 'policy uncertainty' causes small business hiring and capital expenditure plans to decline. That is because a purely statistical model cannot identify fundamental causes. But whatever the fundamental cause, our analysis indicates that adding information about policy uncertainty improves our ability to explain the survey responses provided by the NFIB's survey respondents.

"In that sense, we can say that the correlations between the two are strong enough to reject the argument that policy uncertainty is irrelevant for currently weak small business expansion plans. In our view, policymakers should take seriously the widespread anecdotal reports that policy uncertainty is adversely affecting small business owners' expansion plans."

I think this study is really intriguing, but I would add another caveat to the results, emphasized not too many posts back here at macroblog:

"Talking about the role of the average or typical small business in job creation is problematic. Discussing it is challenging because job creation is highly skewed along the age dimension of small firms."

Smallness per se is not the defining characteristic of the businesses that are responsible for driving job creation. In fact, research shows that once firm age is controlled for, no systematic relationship exists between net growth and firm size. The distinction between young and mature firms—which our own regular poll of small businesses verifies is important—is absent in the NFIB data that Schweitzer and Shane exploit.

Although the Schweitzer-Shane study is a good start to turning anecdotal reports into evidence, the results would be more compelling if they pertained to the actual universe of companies that we would expect to be creating jobs—that is, firms that are young, not just small.

By Dave Altig, senior vice president and research director at the Atlanta Fed

 

The earnings impact of a job loss

Princeton University Professor Henry Farber recently spoke with the Atlanta Fed's Center for Human Capital Studies. Farber discussed some of his current research, including a paper titled "Job Loss in the Great Recession: Historical Perspective from the Displaced Workers Survey, 1984–2010." This paper explores the experience of those who lost a job as measured by the biennial Displaced Workers Survey conducted by the U.S. Bureau of Labor Statistics. The January 2010 version of the survey asked the question:

"During the last 3 calendar years, that is, January 2007 through December 2009, did (name/you) lose a job or leave one because: (your/his/her) plant or company closed or moved, (your/his/her) position or shift was abolished, insufficient work or another similar reason?"

I will focus here on Farber's estimates of the proportionate change in average real weekly earnings for workers who lost a full-time job in the last three years but had a job at the time of the survey. The time series of various cuts of these estimates are shown in the following chart.

The earnings declines are clearly cyclical—larger declines during periods of weak labor market conditions and smaller declines when labor markets are stronger. While I had expected to see an earnings decline for workers who had lost a job, I also thought the 2007–09 period would have witnessed a much greater drop in earnings (via some combination of declines in hourly pay and declines in hours) than the declines seen in previous periods. This chart, however, suggests that the average weekly earnings of those losing full-time jobs did not drop much relative to earlier episodes of labor market weakness.

Those who lost and then regained a full-time job between 2007–09 (labeled "FT-FT" in the chart) experienced about a 10 percent decline in earnings on average, and that decline was no greater than during earlier periods. For those who took a part-time job (labeled "FT-PT" in the chart) the proportionate decline is large—about 55 percent. But again, this decline is no greater than the declines experienced in earlier periods. The proportionate earnings decline of about 22 percent for all workers who lost a full-time job and then regained some employment (labeled "FT-Lost" in the chart) is a bit larger than in earlier periods of labor market weakness. This result is because of the increase in the incidence of part-time employment for workers who had lost a full-time job, as shown in the following chart.

In this chart, the fraction of re-employed workers who lost a full-time job during 2007–09 and were working at a part-time job at the time of the 2010 survey was 20 percent—well above historical levels.

My reading of this information is that the lower earnings of re-employed displaced workers don't appear to be contributing to the current sluggish aggregate income picture significantly more so than in the past. Instead we have to look at other factors, such as the continuing difficulty job losers have had finding a new job and especially a full-time job.

John Robertson, vice president and senior economist in the Atlanta Fed's research department

Job creation by small firms: Age matters

Talking about the role of the average or typical small business in job creation is problematic. Discussing it is challenging because job creation is highly skewed along the age dimension of small firms. This point was driven home in a nice presentation (featuring the chart below) by John Haltiwanger at last week's small business conference cosponsored by the Atlanta Fed, the Board of Governors, and the Kauffman Foundation.

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The chart shows the 90th and 10th percentiles of the employment-weighted job growth rate distribution by firm age (in years). The fastest-growing firms are the 90th percentile (in purple) of the growth distribution, and the fastest-shrinking firms are the 10th percentile (in green). The data are from the Census Bureau's "Business Dynamics Statistics" (for example, here is a related presentation by John Haltiwanger, Ron Jarmin, and Javier Miranda).

As the chart makes clear, the fastest-expanding 10 percent of young firms grow extremely rapidly. While the fastest-growing 10 percent of older firms also expand at a good clip, their growth is much slower than that of their younger-firm counterparts. Note that these are employment-weighted growth rates, so the outsized growth of fast-growing young firms is not an artifact of having a lot of firms with one employee simply doubling in size by hiring an additional worker. Firms that are contracting the most (shown in the 10th percentile) also are skewed along the age dimension, although the differences are not as dramatic.

These differences by firm age are a reason why we at the Atlanta Fed have tried to make our poll of small businesses more representative of the age distribution of firms and have recently been separately featuring the results for young and more mature businesses.

John Robertson, vice president and senior economist in the Atlanta Fed's research department

 

Bank lending to finance a business start-up

On Wednesday and Thursday of this week I attended a conference titled "Small Business and Entrepreneurship during an Economic Recovery," presented by the Federal Reserve Board of Governors, the Federal Reserve Bank of Atlanta, and the Kauffman Foundation.

The conference agenda and papers are available here. Atlanta Fed President Dennis Lockhart gave one of the keynote addresses. His topic was business start-ups, job creation, and the role of banks.

Echoing the findings of research conducted by the Kauffman Foundation and others (for example, here and here), President Lockhart highlighted the vitally important role that business start-ups have played as job creators in the U.S. economy. He also made a distinction between true small business start-ups—those that intend to be small-scale operations (usually with single location and no more than a handful of employees), and growth-oriented start-ups. Both types of start-ups play a role in job creation, but the biggest impact over time comes from successful high-growth start-ups.

"Whether they're so-called 'mom-and-pops' or 'gazelles,' they create some jobs at inception. Inherently small enterprises either fail or sustain operations, but tend to level off in terms of employment. The growth businesses ramp up creating initial employment. They may fail in time, or they may grow to what is still small scale and level off, or they may break out and grow to large scale.

"A 2010 Kauffman Foundation study shows that just 1 percent of employer businesses—those growing the fastest—generate roughly 40 percent of new jobs in a given year. Three-quarters of those businesses are less than five years old."

So, if having a sufficient pipeline of new businesses is important to overall job creation, and especially enough start-ups with high growth potential, what is the role of banks as providers of financial capital to new business ventures? Because a new business is an inherently risky proposition, banks tend to provide a start-up loan only when it can be sufficiently collateralized. That collateralization often means using nonbusiness-related assets such as personal real estate. As President Lockhart's notes:

"The most prevalent form of hard collateral is real property. Start-up entrepreneurs often hear, 'If you'll put up your house, we'll lend to your new business.' Real estate related to the business—to the extent the entrepreneur needs such and actually owns it—can be problematic as collateral because its value may be a function of the business cash flow it helps generate."

The results of Atlanta Fed's most recent poll of small business credit conditions in the Southeast are consistent with the view that the combination of weak economic conditions and lower real estate values since 2006 has significantly reduced access to bank loans as a source of start-up capital. One of the questions in the poll asks: "When you started the business, what sources of financing did you use?" We are able to separate the answers from owners of mature businesses (those starting more than five years ago) and younger businesses (those starting in the last five years). The findings are summarized in the following chart.

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Although the sample size is pretty small, I found the results to be quite striking. The younger businesses we talked to were much less likely to have used a business loan or line of credit from a bank when they started than their more mature counterparts. Instead, these younger businesses were more likely to have used personal savings or some other source. Almost certainly, these differences between older and younger firms are not simply because young entrepreneurs suddenly didn't want to get start-up financing from a bank.

There's obviously still a lot to learn about the business creation process, including the financing of new business ventures in today's economic and financial environment. I believe it's important that these topics are moving up in the list of national priorities and that the body of research dedicated to them, as evidenced at this conference, is growing.

John Robertson, vice president and senior economist in the Atlanta Fed's research department

 

Another cut at the postrecession job picture

There is not much to be said about the August employment report released last Friday—or not much good, anyway. The ongoing updates at Calculated Risk provide a chronicle of the questions and challenges that have characterized the postrecession period. An exhaustive set of graphs are spread across several posts, here, here, and here. The last post in the series focused on construction employment specifically and includes this observation, which is based on the addition of 26,000 construction jobs in 2011 through August:

"After five consecutive years of job losses for residential construction (and four years for total construction), this is a baby step in the right direction. However there will not be a strong increase in residential construction until the excess supply of housing is absorbed."

Given the likely pace of turnaround in the housing market, that sounds like a problem. It is not much surprise that employment in the construction sector is, and likely will continue to be, significantly weaker than it was before the recession. Can the same be said of most other sectors? The following chart shows pre- and postrecession, cross-sector average monthly changes in payroll employment, broadly defined according to U.S. Bureau of Labor Statistics' classifications. For reference, the size of the circles in the chart reflect the relative prerecession size of the sector in terms of employment.

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A few points:

• The 45-degree line represents points where average monthly employment changes before the recession (from December 2001 through November 2007, precisely) are exactly the same as the average changes after the recession (July 2009 through August 2011). Consistent with the slow pace of overall employment growth during this recovery, the majority of circles representing different sectors lie below the 45-degree line.

• In general, the pattern of circles is such that those sectors with relatively high employment changes prerecession are those that have exhibited relatively high changes during the recovery. In other words, we have not yet seen a widespread reshuffling of cross-sectoral employment trends outside of the recession. For example, employment changes in the education and health care sector led the pack before the recession, and that sector has led the pack thus far in the recovery. At the opposite end of the scale, job growth in the information sector has remained on a negative trend in the recovery period, just as it was prior to the recession.

• I want to note a few exceptions to the preceding observation, which discusses the sectors with relatively high employment changes before the recession being the same ones that exhibited relatively high changes during the recovery. As noted, employment in the construction sector is well off its prerecession pace. What may be less appreciated is the fact that manufacturing employment, outside of the motor vehicles and auto parts sector, has experienced monthly employment gains that are better than the prerecession rate. Employment in the government sector, on the other hand, has noticeably flipped from positive to negative. This shift is also true of job growth in the financial activities sector, though the change is less dramatic than in the government sector.

Manufacturing and government represent relatively big shares of employment. Including motor vehicles and parts, manufacturing payroll employment was over 11 percent of total U.S. jobs for the period from 2002 through 2007. Government employment was about 16.5 percent (and had the largest single share of sectoral employment in the breakdown used in the chart above). The bad news in the big picture is that the better performance in manufacturing job creation is really a shift from negative job creation in the prerecession period to zero job creation in the postrecession period. And as for government employment, it seems unlikely that the forces will soon align to move job growth in the public sector back into positive territory. (The same could probably be said of financial activities employment.)

I am not pushing any particular interpretation of these facts, but a couple of questions come to mind. Will non-auto manufacturing employment revert to the contracting trend in place prior to the recession? Will employment in the financial activities and government sectors continue to shrink? If so, will these jobs be absorbed by increased employment in other sectors, and how long will that take?

By Dave Altig, senior vice president and research director at the Atlanta Fed

 

One more sign of struggles on the job creation front

Hot on the heels of the bleak employment report for June, the U.S. Bureau of Labor Statistics yesterday released another important bit of labor market information: the May Job Openings and Labor Turnover Survey, commonly known as JOLTS. Calculated Risk accentuated the positive:

"In general job openings (yellow) has been trending up—and job openings increased slightly again in May—and are up about 7% year-over-year compared to May 2010.

"Overall turnover is increasing too, but remains low. Quits increased again and have been trending up—and quits are now up about 10% year-over-year (usually a sign of more confidence in the labor market)."

The hires and quits angle was noted at Modeled Behavior as well, but at Zero Hedge Tyler Durden isn't in the mood for even muted optimism:

"There was nothing to smile about in today's May JOLTS release from the BLS."

Durden focuses first on the job openings piece of JOLTS:

"Those expecting a pick up in job openings (traditionally the key requirement for an [sic] sustained increase in NFP) will have to wait some more, after the May number came at 3.0 million, the same as April."

Longtime readers of macroblog know that the job openings data are favorites of ours, which we like to view through the prism of the Beveridge curve. This curve plots the relationship between job openings and unemployment. In past posts—here and here, for example—I have noted that:

• The Beveridge curve appears to have shifted out over time, meaning that the amount of unemployment relative to the number of job openings has increased over the past several years relative to the patterns of the decade or so prior to the beginning of this recovery.
• This shift in the Beveridge curve is usually interpreted as representing a change in the efficiency with which workers looking for jobs are matched with employers looking to fill jobs (though the source of the inefficiency is not completely obvious).
• There is a debate about whether the recent shift in the Beveridge curve is a normal cyclical feature of recoveries—in which case the pace at which the unemployed are placed in open jobs ought to pick up over time—or a symptom of deeper structural problems that are likely to persist for, forgive me, an extended period of time.

For most of this year, it did appear that the Beveridge curve was moving back in the direction of its 2000–9. That progress was interrupted in May:

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I don't think that resolves the cyclical-versus-structural debate, but it certainly is not good news. And at this point it is awfully hard to believe that things are going to look better in the June version of JOLTS.

Update: Another way to view the problem, from Steve Davis.

By Dave Altig, senior vice president and research director at the Atlanta Fed

Is offshoring behind U.S. employment's current problems?

In a week loaded with important economic news, no piece of data will garner more justifiable attention than Friday's April employment report. The importance of that report was driven home by Chairman Bernanke's comments at last week's press conference (emphasis added):

"REPORTER: Mr. Chairman, given what you know about the pace of the economy now, what is your best guess for how soon the [Committee] needs to begin to withdraw its extraordinary stimulus for the economy.

"CHAIRMAN BERNANKE: Well, currently as the statement suggests, we are in a moderate recovery. We will be looking very carefully first to see if that recovery is indeed sustainable, as we believe it is. We will also be looking very closely at the labor market. We have seen improvement in the labor market in the first quarter relative to last year. We would like to see continued improvement, more job creation going forward. At the same time we are also looking very carefully at inflation. The other part of our mandate."

In February and March payrolls expanded by an average of 205,000 jobs each month, a pace that is probably sufficient to make progress toward reducing the still-elevated unemployment rate. But at that pace it will take about three years before we see the same number of jobs that existed as of December 2007.

The significant lag between gross domestic product recovery and employment recovery has been particularly extreme in the wake of the most recent recession, but this pattern was a characteristic of the previous two recessions as well. You know the facts: In the post-WWII recessions up to 1989, the average time it took to regain recession-generated job losses was 10 months. The recovery time expanded to 23 months and 38 months in the recoveries following the 1990–91 and 2001 recessions. And we are on track to shoot past those records this time around.

Explanations abound, but one popular belief is that the answer hides somewhere within the somewhat ambiguous phenomenon labeled "globalization." A few weeks back, David Wessel of the Wall Street Journal provided some pretty compelling facts:

"U.S. multinational corporations, the big brand-name companies that employ a fifth of all American workers, have been hiring abroad while cutting back at home, sharpening the debate over globalization's effect on the U.S. economy.

"The companies cut their work forces in the U.S. by 2.9 million during the 2000s while increasing employment overseas by 2.4 million, new data from the U.S. Commerce Department show. That's a big switch from the 1990s, when they added jobs everywhere: 4.4 million in the U.S. and 2.7 million abroad."

Two obvious questions: What jobs are we talking about, and what is the meaning of the differential in job growth? Is this a story of "offshoring"—the shifting, if you will, of jobs to foreign locales for production that still fundamentally satisfies U.S. demand? Or is it more a reflection of the different pace of growth in foreign markets relative to U.S. markets?

It's difficult to come to definitive conclusions on these questions, but we do have some information about the types of jobs that underlie the aggregate job-growth picture drawn in Wessel's statistics. Here's what we know based on data from the U.S. Bureau of Economic Analysis's International Economic Accounts from 1999 to 2008:

A couple of things jump out. First, among U.S. multinational employers, some industries added U.S. employees, and some shed them. On net, these corporations lost 1.903 million U.S. jobs from 1999–2008. During this same period, manufacturing multinationals in the United States lost 1.938 million jobs (see the table). Also, foreign employment in manufacturing represented less than 13 percent of U.S. employment losses and only 10 percent of the total foreign employment gains generated by those multinationals.

By industry, the largest U.S. job losses after the manufacturing industries were created by finance and insurance firms. But, as the table shows, foreign employment in these types of firms also fell. In fact, there were only two types of industries listed above—manufacturing and information—in which foreign employment by U.S. multinationals grew while U.S. employment fell.

Finally, the largest category of foreign job gains was "other industries," which breaks down as follows:

Sixty-nine percent of the foreign employment growth by U.S. multinationals from 1999 to 2008 was in the "other industries" category, and 87 percent of that growth was in three types of industries: retail trade; administration, support, and waste management; and accommodation of food services. Some fraction of these jobs, no doubt, reflect "offshoring" in the usual sense. But it is also true that these are types of industries that are more likely than many others to represent production for local (or domestic) demand as opposed to production for export to the United States.

We certainly don't present this information as a definitive answer to the question about the role of offshoring in the slow U.S. jobs recovery. But if you forced us to choose between global or domestic factors as the place to look for solutions as we struggle with persistent underperformance in U.S. labor markets, we'd choose the latter.

Update: At the Street Light blog, Kash Mansori looks at the issue focusing on the global distribution of sales. Different take, similar conclusion.

By Dave Altig
senior vice president and research director at the Atlanta Fed

The unemployment puzzle--or at least one of them

Brad DeLong (hat tip Mark Thoma) looks at the frustratingly slow progress in U.S. labor markets and offers an intriguing hypothesis about the changing nature of American recessions and recovery cycles. First, some relevant framing facts:

Between 1950 and 1990—back in the old days of Federal Reserve inflation-fighting recessions—the unemployment rate in the United States would on average close 32.4% of the gap between its initial value and its natural rate over the course of a year. If the United States unemployment rate had started to follow such a path after its fall 2009 peak, we would now have an unemployment rate of 8.3% instead of 8.9%.

"But there is the unfortunate fact that none of the United States net reduction in the unemployment rate over the past year comes from increases in the employment-to-population ratio, and all of it comes from decreases in labor force participation…

"…[W]e note that between 1950 and 1990—back in the old days of Federal Reserve inflation-fighting recessions—the employment to population rate in the United States would on average rise an extra 0.227 in a year for each year that the unemployment rate was above its natural rate. If the United States employment-to-population ratio had started to follow such a path after its fall 2009 peak, we would now have an employment-to-population ratio of 59.7% instead of 58.4%. It would indeed be morning in America, instead of the current economic state."

The reference to "the old days of Federal Reserve inflation-fighting" is the key to DeLong’s story of how recent recessions, and their aftermath, differ from most of our postwar experience:

"The obvious hypothesis for why this current recovery—and the last two recoveries—in the United States have proceeded at a sub-par pace is that the speed of recovery is linked to the causes of the downturn. A pre-1990 recession was triggered by a Federal Reserve decision that it was time to switch policy from business-as-usual to inflation-fighting. The Federal Reserve would then cause a liquidity squeeze and so distort the constellation of asset prices to make much construction, sizable amounts of other investment, and some consumption goods unaffordable to demand and hence unprofitable to produce. The resulting excess supply of goods, services, and labor would lead inflation to fall.

"After the Federal Reserve had achieved its inflation-fighting goal, however, it would end the liquidity squeeze. Asset prices and incomes would return to normal. And all the lines of business that had been profitable before the downturn would be profitable once again. From an entrepreneurial standpoint, therefore, the problems of recovery were straightforward: simply pick up where you left off and do what you had used to do.

"After the most recent downturn, however—and to a lesser extent after its two predecessors—things have been different. The downturn was not caused by a liquidity squeeze. The Federal Reserve cannot wave is [its] wand and return asset prices to their pre-downturn configuration. The entrepreneurial problems of recovery are much more complex: not to recall what it used to be profitable to produce but rather to figure out what new things it will be profitable to produce in the future."

I am sympathetic to this view as the dynamics of employment recoveries do seem much different in the post-1990 era than in the pre-1990 era. To provide yet another example, on average it took 10 months to recover all the jobs lost during the recessions of the period between 1950 and 1989. In contrast, it took 23 months to recover the jobs lost following the 1990–91 recession and 38 months following the 2001 recession. Right now we are 20 months from the official end of our most recent contraction and still almost 5.5 percent below the pre-recession employment peak. (A stark graphical reminder from Calculated Risk is featured at Economics Roundtable.)

What's more, the mechanism DeLong appeals to rings true. That is, prior to the 1980s, downturns in the economy were dominated by intentional tightening by the Federal Reserve to contain inflation. In the post-Volcker era, however, structural shocks appear to be the dominant story.

But the deeper one digs into the labor market facts, the deeper the questions become. Let me offer up an old macroblog favorite, the Beveridge curve. We have noted in the past that the Beveridge curve—which measures the relationship between the unemployment rate and job openings created by businesses (or vacancies)—seems to have shifted outward over the course of this recovery. In words, relative to the jobs available, unemployment is higher than we would have predicted based on the vacancy/unemployment relationship that prevailed in the 10 years prior to last year.

My view has been that this shifting of the Beveridge curve relationship represents structural issues in the U.S. labor market. A counterargument has been that such shifting is typical of the early phases of a recovery. And if the 1990-91 and 2001 recessions are the best analogs to the current cycle, we might well expect the relationship between job availability and unemployment to return to the prerecession norm as the efficiency of the job-matching process recovers along with other aspects of the economy. In fact, we might even expect the job-matching pace to improve over time as illustrated by the following chart that plots the time path of job openings and the unemployment rate (with the 1990–2001 and 2001–07 periods highlighted in green and red respectively):

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The fact that all the points highlighted in green lie to the left of the points highlighted in red means that, for a given number of job openings, unemployment rates were lower during most of the past decade than they were in the 1990s. And there is certainly no evidence that outward shifts in the Beveridge curve are permanent.

Here, though, is where the search for unified business cycle theories gets a little tough. The return of the Beveridge curve to its prerecession norm is a distinctly post-1980 phenomenon. Excepting the 1960–61 episode, the recessions in the 1950–80 era are consistently associated with seemingly permanent rightward shifts in the Beveridge curve:

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On the other hand, the aftermath of the inflation-fighting 1981–82 recession represented a clear shift, as the vacancy/unemployment relationship improved dramatically (albeit slowly):

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How can we explain, then, that the supposedly demand-driven recessions of the pre-1990 era were associated with seemingly structural changes in the Beveridge curve relationship (in the "wrong" direction prior to 1980 episodes, in the "right" direction after the inflation-wringing contraction of 1981–82).

And what about this time around? Here's where we stand:

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Is the recent shift in the Beveridge curve here to stay, or transitory as appears to have been the case in the last two recessions?

Can I get back to you on that?

By Dave Altig
Senior vice president and research director at the Atlanta Fed

An aside: A warm welcome to our new blogging brethren at the New York Fed's Liberty Street Economics.

Update: If you prefer your Beveridge curve history in movie form, Roger Farmer's your man.

Survey: Small business optimism improving, especially among young firms

Through our quarterly Small Business Lending Survey, we heard from our small business contacts that economic or sales uncertainty acts as a considerable influence in their hiring and capital expenditure decisions. In the third quarter, half of business contacts not planning to increase capital expenditures indicated economic or financial uncertainty was affecting their decisions. Likewise in the fourth quarter, economic or financial uncertainty was noted among those planning to hire as an influential factor. (Below are charts of our survey's special questions on this topic.)

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Since uncertainty can act to inhibit investment and hiring, a reduction of uncertainty and a more positive outlook for the economy might be early signs of future growth for small firms. Recent data suggest both optimism and demand for credit from small firms are on the rise. The net percent of banks reporting stronger demand from small firms has been steadily improving since the first quarter of 2009 and was positive (that is, more banks reported increased demand versus decreased demand) for the first time since the second quarter of 2006, according to the January Senior Loan Officer Survey. Also, of the banks that eased standards, many reported a more favorable or less uncertain economic outlook. In another report, Capital One Bank's fourth quarter Small Business Barometer survey, suggested that "many U.S. small businesses are more optimistic about the strength of the economy and their own financial position relative to the third quarter." The National Federation of Independent Business' (NFIB) Index of Small Business Optimism has also been steadily rising since March 2009. Last week, the NFIB released results from its most recent survey:

"The Index of Small Business Optimism gained 0.4 points in February, rising to 94.5, not the hoped-for surge that would signal a shift into "second gear" for economic growth…

" 'This is not a reading that characterizes a strongly rebounding economy,' said NFIB chief economist Bill Dunkelberg. 'But it is the third best reading since the fourth quarter of 2009 when the economy was expanding rapidly. So, it gives us cause for some real optimism. Apparently the future is looking brighter for a few more small-business owners, although much will depend on what Congress does this year.' "

As the NFIB notes, much in line with gross domestic product growth, optimism at small firms has been improving, albeit at a slow pace. Here at the Atlanta Fed, we have seen the same gradual improvement in optimism in our Small Business Lending Survey.

While we don't create an overall optimism index, we ask firms how they expect the number of employees in their firm to change over the next six to 12 months—increase, no change, or decrease. Similarly, we ask them about their expected changes to capital expenditures and level of sales. From the third to the fourth quarter of last year, the outlook in all three categories improved among the 163 participants that took both the Q3 and Q4 surveys. The percent of those anticipating increases (net of those anticipating decreases) are plotted on the chart below. Any dot appearing to the left of the 45-degree line indicates a greater net percent indicated "increase" in the fourth quarter. A few other survey questions are also plotted on the graph and explained in detail underneath.

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One of the more interesting findings in our survey was that young firms (which we define as any firm less than seven years old) in the Q4 survey were found to be far more optimistic about future business conditions than their mature (seven years or older) counterparts. Young firms were more likely to indicate they were seeking credit to expand their business. Also, significantly larger net percents of young firms anticipate increases to employees, sales, and capital expenditures over the next six to 12 months. In fact, none of the young firms indicated they anticipated decreases to the number of employees in their firm over the next six to 12 months. The differences are outlined in the table below.

The optimism among this group of young firms was present despite the group having a relatively difficult time obtaining credit. (The difference in the average amount of financing received between mature and young firms was statistically significant at the 98 percent level.) When comparing applications for credit, 42 percent of young firms seeking credit received the full amount or most of the amount requested compared to 64 percent of mature firms. The lack of credit fulfillment by young firms was not the result of not trying, as a greater portion of young firms applied for credit—on average, young firms applied through a larger variety of credit channels.

As research by John Haltiwanger, Ron Jarmin, and Javier Miranda has demonstrated, credit availability for young firms and their outlook for the future is particularly important since young firms play a large role in net job creation. (This topic was discussed in a past macroblog as well.)

While the movements are small and gradual, it's nice to see that things appear to be improving and that we're seeing the trend across many measures.

By Ellyn Terry
senior economic research analyst at the Atlanta Fed

Gaining perspective on the employment picture

The employment report released today indicated a moderate increase of 192,000 in nonfarm payrolls and a slight decline in the unemployment rate from 9 percent in January to 8.9 percent. While certainly an improvement over recent months, employment growth still has not reached a level needed to produce significant drops in the unemployment rate.

In a speech given yesterday, Atlanta Fed President Dennis Lockhart addressed some of the underlying issues that have potentially been holding back job growth. On the supply side, President Lockhart addressed three structural issues, including skill mismatch, house lock, and extended unemployment insurance.

"Skill mismatch exists when work skills of job seekers do not match the requirements of jobs that are available. For example, a construction worker is unlikely to have the particular skills needed in the healthcare industry."

This comment is motivated by the research of Federal Reserve economists (Valetta and Kuang and Barnichon and Figura, among others) that suggests while there is likely some evidence of skill mismatch, it's not materially different than what's been seen during past recessions.

Another possible explanation mentioned by President Lockhart for persistently high unemployment is the existence of  what is sometimes referred to as "house lock."

"Currently many people owe more on their homes than their homes are worth. It's claimed that job seekers don't accept jobs available in other geographic locations because of the difficulty or cost of selling their homes."

Here too, President Lockhart says there is evidence indicating house lock is not a large contributor to the current high level of unemployment (For example, see Schulhofer-Wohl, Kaplan and Schulhofer-Wohl, and Molloy et al.)

More convincing is the argument pointing to the impact of extended unemployment insurance benefits. Research from the most recent recession and recovery—for example, see Valetta and Kuang and Aaronson et al.—suggests extended benefits have added to the unemployment rates, with estimates ranging from 0.4 percentage points to 1.7 percentage points. If that's the case, then President Lockhart says these extended benefits may be acting "as a disincentive to accept an offered job, especially if the job pays less than the one lost."

As President Lockhart indicates, however, standard skill mismatch, house lock, and unemployment insurance disincentives do not provide the full answer. So, he offers some additional factors:

"On the demand side, it's been argued that credit constraints affecting small businesses are holding back hiring. Banks are blamed for this situation and so are regulators. Getting credit at an affordable cost was a challenge during the recession. But credit conditions for established small businesses have been steadily improving for some time now. Recent surveys suggest that most small businesses are cautious about hiring more because of slow sales growth rather than lack of access to credit.

"Furthermore, a recent National Bureau of Economic Research study showed that job creation is more correlated to young businesses than the broad class of small businesses. Start-ups and young businesses are often financed in ways other than direct business loans. Difficulties getting home equity loans and other personal credit appear to have reduced formation of new businesses.

"Strong productivity growth is another much-discussed potential impediment to hiring. Stated simply, increases in productivity allow businesses to support a given level of sales with fewer people. In the longer term, rising productivity expands the economy's output, which in turn generates jobs. But in the short run, productivity investment can be the enemy of employment growth.

"Productivity growth was unusually high during the recession and in the early stages of the recovery, limiting the need for additional workers. Recently, however, productivity growth has slowed below the pace of business sales. If this trend continues, the need to hire additional workers will increase.

"Finally, in recent months, reluctance to hire has been attributed to heightened uncertainty, a common theme among my business contacts. A few weeks ago I argued that uncertainty has abated somewhat with the improving economy, the resolution of the November elections, the extension of tax cuts, and the apparent containment of the European sovereign debt crisis. I said that before Tunisia and before the fiscal struggle in Congress gathered steam. The restraining influence of uncertainty persists, to some extent."

Outside of productivity, it is difficult to measure the impact of these issues. (For example, it is difficult to survey people who did not start up a firm to determine if credit was an issue.) However, the theme of uncertainty has been a consistent factor in discussions on employment with our contacts here at the Atlanta Fed. If a simple explanation for persistent weakness in labor markets has proven elusive, there is little argument with President Lockhart's observation that "the recovery has brought little relief to the labor market."

Should today's employment release change any opinions about the strength of the labor market? In my mind, not really. There are still 7.5 million fewer jobs than at the start of the recession. There are also still over 8 million workers employed part time for economic reasons, and almost 6 million of the unemployed have been so for more than 26 weeks.

But the numbers released today did provide some additional evidence that the labor market is moving in the right direction with a level of growth consistent with at least a modest decline in unemployment. Furthermore, as consumer expenditures continue to rise, profitability increases, and the amount of uncertainty diminishes, hiring should increase. However, as President Lockhart alluded to in his speech, it will likely take time before the labor market recovery catches up to the overall economic recovery.

By Melinda Pitts
Research economist and associate policy adviser at the Atlanta Fed