In yesterday's post, I reviewed labor force by age and gender and found that about 1/3 of the movement below trend in LFP seems to come from males under the age of 35. There are about 35 million working-age males between 20 and 35, and LFP rates for this group (though this data is a bit noisy) are roughly 2 1/2 to 3% below trend. About 1 million young adult males have disappeared from the labor force.
Here is a graph of construction employment and unemployment. With September's reading, the construction unemployment rate is 7.0% - basically back to 2004 levels, when the construction unemployment rate was 6.8% and U-3 unemployment rate was at 5.4%. Note, though, what has happened to construction employment over that time.
In September 2004, there were about 7 million construction employees. In September 2014, there were about 6 million. A loss of.....about 1 million workers from the construction labor force. What proportion of these workers would be males under 35 years old? It must be pretty high.
This is a topic where I think supply vs. demand issues are not easily disentangled. The Fed allowed a tremendous demand shock, which we have mostly grown out of. But, the one area where credit markets aren't nearly back to a healthy equilibrium is in housing, where homes are still much more leveraged with debt than they have ever been before (I have postponed my bullishness on housing since that post, waiting to see if we can overcome the credit problem.). This leverage is entirely the product of the decline in home values that came out of the demand shock. But, the disequilibrium is creating a supply shock now, because overleverage in the housing market has stalled housing credit markets, which is hampering existing home sales and new home construction. Rent inflation is high right now. (It's the only source of inflation in core CPI right now.) So, this is a supply problem, but the solution is more aggregate demand to push up home prices by another 10% or so.
So, this is an aggregate demand problem, but it doesn't have anything to do with sticky wages. These young males aren't out of the labor force because their reservation wages are too high. They are out of the labor force because there aren't any houses to build. But, the solution is still inflation. Ironically, household formation has been low. These young males would be building houses for themselves! If the Fed had provided just a little bit more liquidity before ending the QE programs, these young males would have jobs and they would have houses - with lower rents than the houses that are available now - because the demand problem is a supply problem.
The Fed just released a new labor indicator that suggests a very strong labor market - similar in measure to 1987, 1997, or 2005, when the economy was basically settling into full utilization (here is a cautionary comment). I agree with the finding in this measure. We have a strange situation, where the economy is very strong, except for housing, which is dead as a doornail. It was recovering, but has stalled out over the past two years.
I was readying myself for a speculative position, based on the idea that homes are much cheaper than people seem to be accounting for. But, the prices may not be able to overcome a market without functioning credit markets or Fed-provided cash. (Yesterday, calculated risk noted that, at least in Phoenix, non-cash buyers were up 10% YOY, so maybe there is hope if the second derivative of mortgage levels can be sustained.) So, while I have been right in my bullish calls on unemployment this year, I am afraid that the futures market has been right all along about the weak yield curve in 2015-2016. Growth in investment might have to come entirely from industry for the next couple of years. The downside risk is that there isn't enough escape velocity, and the Fed will not take part in another round of liquidity. The neutral scenario is probably that we muddle along, with middling inflation and low interest rates. Even though the balance between savings and investment will continue to improve, all that savings will have to be filtered through industry.
In the meantime, these marginally attached young males will remain non-employed and ill-housed. And baby boomers who would prefer the long-term return profile of real estate will have to save through less favored means.
The end-game seems to be vulnerable to a tipping point - either another deflationary crisis, or an economy hot enough that it builds to where home leverage reaches normal levels and then explodes in a flurry of credit creation.
PS: Good news from the Fed today. If this more accommodative posture continues, the effect on interest rates, at least in the medium and long term parts of the yield curve, should be positive.