Why Unemployment Needs To Go Up

The Unemployment Rate just arrived at a solid number: The economy is firing on full cylinders. But, there are also signs that the economy is beginning to show signs it has peaked and will start to contract.  Demand Pull Inflation driven by the stimulus programs during a broken supply chain pushed prices upward during COVID.  Inflation just hit a 40-year high.  And, consumers are feeling the punch from this.  Because of this, the Federal Reserve is lifting interest rates at the fastest clip in 25 years.  The end result is an exhausted consumer who is contracting at an all-time rapid rate.

The ripple effects from this will be enormous.

Looking toward the consumer, and what will happen next with unemployment is easy to sort out.  Breaking this down methodically shows that the economy has major headwinds ahead.

My expectation is a rapid increase in unemployment just ahead.

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What is on Consumers’ Minds?

The stimulus checks from the Federal Government did what they were supposed to do at the onset of the COVID pandemic and ensuing lockdown: Keep the economy moving forward.

With three successive stimulus checks, the consumer did what they did best: Fill To Cart!

There was an enormous amount of shopping that occurred with the stimulus checks.  But, this happened at a time when the supply chain was severely broken down.  The big influx in income and expenditures resulted in depletion of inventory and supplies throughout the entire supply chain; a supply chain dependent upon just-in-time strategy.

This pushed suppliers to compete for dwindling and limited raw goods which, that drove up prices for these raw goods.  The ripple effects of competitive bidding for raw goods drove up basic costs and that rippled throughout the entire economy.

Prices soared.  And, consumers became overburdened by the cost of basic things such as food & gasoline.

Consumer Confidence hits all-time low

University of Michigan Consumer Sentiment Hits all-time low

Over the past 3 decades, the economy has seen multiple recessions – including the Great Recession – as well as the COVID lockdown.  Yet, despite these economic events, in the face of soaring inflation, the consumer feels less confident today than at any time in the past.

That significant drop of confidence will translate into a significant drop in expenditures.  And, this is already occurring.

First, inflation is hitting the most basic items consumers purchase regularly: Food, gas, & rent.

Taxing the consumer

Keep in mind that 75% of Americans have less than $1,000.00 in savings and 50% have zero in savings.  And, some 67% of Americans live paycheck-to-paycheck.  If, all of a sudden, basic costs rise significantly on things such as food (up to 10% in one year), gasoline (double in one year), and rent (up to 15% in one year), then this eats into total consumption.

Consumers are already purchasing these basic things.  So, raising these things in price from a zero-sum standpoint where a consumer must pay more for one item and therefore cannot buy another, the economy will see shrinkage in activity.

And, any consumer that is carrying debt of some kind for credit cards – credit card debt hit an all-time high – then, this acts as yet another tax on the consumer.  Consumers will entrench themselves with basic needs and contract expenditures for other things that are not necessitates.

Consumption and Unemployment

Already, there is empirical evidence that the economy has slipped into a recession.  The first quarter of 2022 saw a contraction of 1.6% in GDP growth.

With the consumer hitting an all-time low in confidence at the end of Q2, consumption will contract even more.

During late July, all through August, and into September, companies will report revenue and earnings for Q2.  The expectation is that the numbers will be significantly lower in Q2 than Q1, which was already negative.

What do companies do when they report lower revenue and earnings?  Simultaneously, these companies also cut jobs.  There will be a large wave of job cuts in a short period of time as we move through the summer.

Employment and Unemployment at near-record levels

An odd thing about employment & unemployment is that it lags economic activity. The reason si simple: Firms are slow to react with hiring & firing because they want to be certain that there are solidified trends.

In the meantime, unemployment is at near all-time lows:

Unemployment rate

And, for every unemployed person, there are currently 2 job openings:

Job Openings to Unemployment Rate

This above chart is the one to really look at.  This is an historical rate.  For every unemployed individual there are 2 job openings.  That is a very tight labor market.

However, looking forward, as companies go through their contracting cycle, firms will stop offering jobs to new hires – already, firms are retracting offers.  Further, unemployment will start to move higher as job cuts start.

Contracting job market means further contracting economic activity

As more and more firms drop job offers as well as start the firing process, this means less and less expenditures in the economy.  The correlation between incomes & expenditures is almost absolute.  As the economy sees this constant contraction, and individuals are fired, less expenditures will occur.

This will drive consumption lower, however not into perpetuity; the economic contraction will bottom out.

During this time, inflation will abate and, this will mean the Federal Reserve will slow interest rate increases.

Unemployment and What To Look For

There may be silver linings here:

  • On the one hand, consumer confidence is at an all-time low and from here, it surely must go upward.  However, this will not be immediate and increasing straight upward.
  • And, there is also developments with key commodity prices such as wheat, corn, cotton, oil & gas, and others.  These commodities are sinking quickly which would mean there will be price reductions in products.
  • As the world continually emerges from the pandemic lockdowns, supply chains will reinvigorate and likely hit oversupply levels.  This, again, will mean price reductions in key products.
  • Given the pace at which the economy looks set to contract, this may very well give pause to the Federal Reserve’s rate tightening policy.

Given the above factors, with the potential of inflation dropping rapidly on a realties basis, the economy may not see a steep and long decline in employment.  This is the juggling job that the Federal Reserve now has.  I simply do not see them pulling this one off.

I reiterate that I expect results from Q2 to be negative.  Then, job cuts will ensue on a large scale as companies cut costs.  This will act as a contracting force for the economy.  Supplies of basic materials like food and gas will drop to more moderate levels.  The housing market will slow to some extent and, given that, rents may decline.

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