Angst in America, Part 1: Aimless Men

“America was not built on fear. America was built on courage, on imagination and an unbeatable determination to do the job at hand.”

– Harry S. Truman

“Unemployment is a weapon of mass destruction.”

– Dennis Kucinich

“Ever since 2000, basic indicators have offered oddly inconsistent readings on America’s economic performance and prospects. It is curious and highly uncharacteristic to find such measures so very far out of alignment with one another. We are witnessing an ominous and growing divergence between three trends that should ordinarily move in tandem: wealth, output, and employment. Depending upon which of these three indicators you choose, America looks to be heading up, down, or more or less nowhere.”

–Nicholas Eberstadt, “Our Miserable 21st Century

“Depression Breadline,” 1991, by George Segal

Angst is “a feeling of anxiety, apprehension, or insecurity.” Many of us feel it acutely right now – and that’s new. Angst isn’t a temporary, individual thing anymore. Now we all feel it together – or at least most of us do – and it’s not at all temporary. Millions can remember feeling no other way.

There’s a general sense in much of the developed world that we’re headed for more difficult times. Deficits increase, unemployment rises, and the benefits of the future – or at least the future that is already here (to paraphrase William Gibson) – have been unevenly distributed throughout society. It is not just in voting patterns that you can recognize the sense of malaise. You can see it in the economic numbers and in a lot of the psychological/sociological research.

Angst manifests differently in different countries. Consider Japan:

Recent research by the Japanese government showed that about 30% of single women and 15% of single men aged between 20 and 29 admitted to having fallen in love with a meme or character in a game – higher than the 24% of those women and 11% of men who admitted to falling in love with a pop star or actor.

The development of the multimillion-pound virtual romance industry in Japan reflects the existence of a growing number of people who don’t have a real-life partner, said Yamada. There is even a slang term, “moe”, for those who fall in love with fictional computer characters, while dating sims allow users to adjust the mood and character of online partners and are aimed at women as much as men. A whole subculture, including hotel rooms where a guest can take their console partner for a romantic break, has been springing up in Japan over the past six or seven years. (The Guardian)

Is it any wonder that there is a dearth of babies in Japan? It’s hard to get pregnant when a computer avatar is your companion. Young British women are literally 20 times more likely to have a pregnancy out of wedlock than young Japanese women. The cultural oddity of moe partially explains that fact.

While researching this topic I came across literally scores of similarly disconcerting statistics. For instance, the difference between the income and employment status of young males who grew up in two-parent versus one-parent homes is staggering, especially when you realize how fast the number of single-parent homes – generally, though not always, led by the mother – is rising. Less than half of US children live in a traditional family setting, according to Pew Research.

This week we begin a series of letters exploring the new economic and sociological anxiety. I want to look at what causes it and think about what we can do to ease it. I don’t know how many letters this dive will take. I may break away for other topics and then come back to the topic of angst. The one thing I know, based on my own experiences with family, friends, and business associates and the feedback I get from readers, is that we have a big problem.

In his first inaugural address, Franklin D. Roosevelt famously said, “The only thing we have to fear is fear itself.” In 1933 that wasn’t even close to true. They had plenty to fear: The US was already in the throes of a depression that would only get worse, and war clouds were forming across the Atlantic and Pacific.

Roosevelt didn’t have all the right answers, but he did one thing very well: He gave people hope. My generation heard from our parents, even decades later, how FDR helped pulled them through those hard times.

Of course, he had an important advantage today’s leaders lack: Television, talk radio, and the internet weren’t constantly reminding everyone how terrible things were. We didn’t know or care about the intimate details of our leader’s lives. Today, I am not sure even FDR himself could do what he did back then. Conditions are different now.

It is become increasingly clear to everyone that we are breaking ourselves up into tribes based on how we consume news. We consume our news from people who are generally ensconced in the same ideological bubble we are, which only reinforces our concerns and anxieties. If you think Donald Trump and Paul Ryan are taking us in the wrong direction, there are plenty of people who will agree with you and tell you so. If you think the people opposing them don’t understand and are distorting the truth, there are plenty of sources that will confirm your thinking. And both sides talk/shout over the other.

We have always had polarization among our news sources (even back in colonial times), but it has never been so ubiquitous before, or so extreme; and the news has never been so readily accessible, so that numerous “tribes” can live in the same physical neighborhood yet hear different versions and interpretations of the problems and directions in our country and the world. We no longer all listen to Walter Cronkite on the radio or TV or read the local newspaper for our news. There is no unifying national experience, just a disjointed series of intra- and intertribal interactions. (This is not just a US problem, but I’m going to be citing mostly US data.)

Labor Market Limits

It’s no wonder that so much of our angst is job-related. Some people don’t have jobs at all while many others don’t like the jobs they have. The millions of unemployed, underemployed, or unhappily employed touch all of us in some way.

If our nation’s work rate today were back up to its start-of-the-century high, well over 10 million more Americans would currently have paying jobs. And that employment shortfall makes a real difference to the growth of the economy. There are only two ways to grow the economy: You either have to grow the number of people working, or you have to increase their productivity. If you remove 10 million American workers from the labor force, not only are they not producing anything, the vast majority of them are obviously consuming the fruits of the labor of those who are employed.

As we will see, the number of people dropping out of the labor force is increasing, and if that trend is not turned around, the hope that we will get back to 3% GDP growth is simply wishful thinking. Couple that trend with reduced productivity and we will be lucky to see even 2% growth for the rest of the decade. If we have a recession, we will end up with a lower GDP than we have today. Think about that, and then plug it into federal budget projections.

Meanwhile, employers feel a different kind of angst. Many either can’t find qualified workers or their workers require constant attention and extensive training to be productive. Neither side of the labor-management divide is happy with the arrangements. Everybody is apprehensive about the future. The common complaint from businessmen is not that they need more capital and the ability to borrow money from banks, but that they need more good workers in order to attract more good customers.

This widespread dissatisfaction among employers, employees, and those who aren’t working is one big reason Donald Trump is now president. He paid attention to a large group of voters that others ignored, spoke to their anxieties, and won the White House. It was not simply working-class white males that he appealed to; that is far too simplistic an analysis. It was also their bosses, spouses, parents, and friends. A huge swath of the country was experiencing a yawning disconnect between the reality of their daily lives and the supposedly growing economy touted by politicians and media pundits. We focus on the anxiety of the white working-class male, but I challenge you to find me an identity group (however you want to define it) that isn’t anxious and concerned that things aren’t heading in the right direction.

American culture used to be known for its optimism, its can-do spirit. That quality hasn’t vanished, but it has surely lost some of its luster this century. You can see it fading in the statistics about the number of new business startups, which is now less than the number of businesses closing down. And that trend has been in place for almost a decade. The hope that the situation was temporary probably let people tolerate much worse conditions than they should have. But you can only look on the bright side so long before you get tired of waiting.

The change in direction that began at about the turn of the century is described clearly in Nicholas Eberstadt’s biting essay in Commentary magazine entitled “Our Miserable 21st Century.”

I will quote from that essay several times in this letter. If you take the time to read it, you should also read the pushback from my friend John Tamny, published in Forbes a few days ago, titled “Nicholas Eberstadt, Election 2016, and Self-Flagellation by the Elites.”

Men Without Work

One problem is data-related. The “labor force” from which we calculate unemployment statistics necessarily includes only those people who are either working or who wish to be working. It ignores the retired, those in school, the disabled, nonworking spouses, as well as those who are not interested in working.

That’s always been the case, of course, but the percentages vary. Even a 1% variance in the size of the labor force represents millions of people in a nation as large as the US. So the data got even murkier as the Baby Boomers approached retirement age. The oldest of that very large cohort turned 65 in 2010. Some probably retired early for various reasons.
Others worked or will work well beyond the theoretical retirement age of 65, either voluntarily or not.

Regardless, it is definitely the case that a smaller percentage of the adult population is working now than in the past. The percentage declined in the early-2000s recession and never fully recovered before plunging in 2008–2010. We see only a very slight upturn after the recession ended.

The problem is particularly acute for men, though it affects women as well. Recently I read a marvelous book called Men Without Work: America’s Invisible Crisis by Nicholas Eberstadt, who wrote the essay in Commentary. The book is fairly short, and I highly recommend it. Eberstadt, who is a researcher at the American Enterprise institute, is very concerned with the large number of men in their prime who simply aren’t working. This isn’t a new development, nor is it restricted to men, but it is becoming more obvious. (At some point I will do a full review of the book.)

When Federal Reserve officials gathered last week to raise interest rates, they reviewed the data that says the economy is near “full employment.” That notion is laughable to millions of regular Americans. We all know, or at least observe, plenty of working-age males who could be working but are not. They don’t appear in the stats as unemployed unless they are “actively looking” for work. Or they may count as “employed” because they spent an hour or two doing odd jobs that month. But for all practical purposes they’re unemployed, and someone else is supporting them.

Eberstadt digs into the data and estimates that for every unemployed American male between ages 25–55, there are three more who are neither working nor looking for work. The number of those males presently in the labor force is down almost 4 percent since 2000. That’s about 5 million men who, for whatever reason, have dropped out of the labor force.

Here’s another and possibly even more startling number. Between 2000 and 2015, the total paid hours of work by all American workers rose 4 percent. The prior 15-year period saw a 35-percent increase in work hours. That’s bad enough, but it gets worse. In that same 2000–2015 period, the adult civilian population grew almost 18 percent.

With the population growing far faster than the total number of work hours, it shouldn’t be surprising that so many people aren’t working. And maybe they should be –you could surely argue that the work hours will appear if these people get busy and demonstrate their worth. In some cases that’s likely true, but the full picture is more nuanced. The downturn in labor force participation is a trend that has been going on among working-age men for over 60 years, and recently (and somewhat alarmingly) we have seen the same negative trend in working-age women. Let’s look at a few charts from the FRED database of the St. Louis Federal Reserve Bank.

This first chart shows the overall civilian labor force participation rate, which grew from the mid-’60s right up until the beginning of the century.

But that chart is misleading. It looks like things were just fine up until 2000, but that’s not the case. The next two charts show what really happened. The first chart is the male labor force participation rate. There is a bit of a statistical illusion in the way the data is framed, but let there be no mistake: The drop-off has been significant.

The next chart shows the labor force participation rate for both men and women. Note that the participation rate for women doubled in the 50 years up till 2000, while for men it went from almost 90% (87.4% to be precise) to just below 70% today. And that falloff has been steady throughout the entire period. This is not a recent phenomenon, although the downturn has worsened significantly since 2000. Notice that the participation rate since 2000 among women has been dropping at roughly the same rate as for men, at least in the last 6–7 years.

How Does It Start?

The progression from childhood to working adulthood used to be fairly standard. In an idealized form, which now seems almost mythological, it went something like this.

You grow up seeing at least one parent go off to work every day. You know from an early age that this is normal and necessary to support the family. When you reach your preteens, you get a starter job of some kind – paper route, mowing lawns, babysitting, etc. Maybe you get a regular job after school or in the summer. You finish high school and gain some independence from your parents by going to college or into the military, or by getting a full-time job, which may involve learning a trade. After a few years of saving your money, you’re ready for marriage and the purchase of a starter home. Then you live happily ever after. The End.

That sequence, to the extent it ever existed, is pretty rare now. The majority of children grow up in broken homes, see parents hop from job to job with little satisfaction, and in some areas grow up surrounded by crime and welfare dependence. Overcoming that kind of start to get on a positive path is hard. People still understand that education is critical, but it’s also more expensive than ever. Young adults take on student debt only to find the wonderful career they imagined isn’t so easy to come by.

Then there’s a second category. These are people who may grow up in stable surroundings, make all the right moves, get a good education, and start a rewarding career, only to run into a buzzsaw recession like we had in 2007–2010. They get laid off, burn through their savings, spend months or years looking for work, and eventually give up in despair. Then families break up, people move back in with parents, addictions form, and everything gets worse from there. And if such people do finally get another job, it comes with lower pay and fewer benefits.

On this topic, here are some quotes from “Our Miserable 21st Century.”

A short but electrifying 2015 paper by Anne Case and Nobel economics laureate Angus Deaton talked about a mortality trend that had gone almost unnoticed until then: rising death rates for middle-aged US whites. By Case and Deaton’s reckoning, death rates rose somewhat slightly over the 1999–2013 period for all non-Hispanic white men and women 45–54 years of age – but they rose sharply for those with high-school degrees or less, and for this less-educated grouping most of the rise in death rates was accounted for by suicides, chronic liver cirrhosis, and poisonings (including drug overdoses)….

All this sounds a little too close for comfort to the story of modern Russia, with its devastating vodka- and drug-binging health setbacks. Yes: It can happen here, and it has. Welcome to our new America….  

By 2013, according to a 2015 report by the Drug Enforcement Administration, more Americans died from drug overdoses (largely but not wholly opioid abuse) than from either traffic fatalities or guns….

In Dreamland, his harrowing and magisterial account of modern America’s opioid explosion, the journalist Sam Quinones notes in passing that “in one three-month period” just a few years ago, according to the Ohio Department of Health, “fully 11 percent of all Ohioans were prescribed opiates….” 

[N]early half of all prime working-age male labor-force dropouts – an army now totaling roughly 7 million men – currently take pain medication on a daily basis.

The Big Question: Why?

Again, both men and women are dropping out of the labor force at higher rates, but Eberstadt shows it is more common for men to do so. The trend is getting worse, too.

Larry Summers shared the above trend chart in his Men Without Work book review. You can see that the trend goes back way before NAFTA and factory automation were big factors. The percentage spikes higher in each recession then falls back, but in a series of “higher lows.” I generally hesitate to extrapolate this far into the future, but after six economic cycles with the same effect, I think it’s fair to call this a persistent pattern.

If the trend since 1970 does continue, nearly a quarter of all men aged 25–54 will be voluntarily jobless by mid-century. We should all hope the pattern does not persist, because I can’t imagine this scenario being good for anyone. Large numbers of unoccupied young males are rarely beneficial to social order.

But that outcome is totally possible. Let’s go back to what I was writing a few weeks ago. When six million truckers and taxi drivers are put out of work starting in 2025 (but will surely be out of the driver’s seat by 2040), along with most auto-industry repair and maintenance workers who now repair gasoline and diesel engines, and the auto insurance business too has been decimated, it is not hard to imagine a world in which 20%+ of the population is not part of the labor force. (And that’s just one industry.)

Set aside the future, though. We have millions of unoccupied working-age males right now. What are they doing all day? Survey data suggests they spend much of their time staring at screens, either TV or video games. They watch a lot of pornography. On average, they are in front of a screen for 2000 hours a year, about what most people spend working a full-time job. Many live with relatives or couch-surf between friends’ homes. They say they’ll look for a job when conditions improve, but that’s always tomorrow. They just drift.

I can’t find hard data, but I suspect this group works more than the surveys indicate. Much of the work happens off the books as they try to preserve government benefits or avoid child support payments. Nevertheless, they surely don’t have stable careers. Why not? What are the barriers? Here are a few, in no particular order.

Education: Many of the aimless males barely made it through high school and aren’t ready for college. Maybe they could get ready, but that would take money and dedication few of them have, especially after they are 30 years old. This limits their options to manual labor, low-end service work, or even less positive options.

Now, it’s easy for someone like me to say these men should swallow their pride and buckle down at whatever kind of work they can get. Yes, they should. But it’s one thing to work in the salt mines when you know you’re on your way to something better, and quite another when you know it’s the end of your road and you’ll never do better. That’s got to be discouraging. Given a choice between jobs like that and playing video games, it’s no wonder so many choose the virtual life.

Safety Nets: Our well-intentioned social programs can create a disincentive for people to work. That’s not always the case; sometimes people fall on hard times and need a temporary hand up, and society benefits by making them productive again. We need to do a better job of creating the right incentives and avoiding the wrong ones.

This also goes for disability benefits. You’ve seen the statistics on how many people suddenly acquired debilitating medical conditions during the Great Recession. To my non-physician mind, it seems like distinguishing between genuine disabilities and fraudulent ones would be simple. Apparently it’s not. Here again, we need to consider incentives and deliver the right ones. Eberstadt notes (again quoting from “Our Miserable 21st Century”):

By the way: Of the entire un-working prime-age male Anglo population in 2013, nearly three-fifths (57 percent) were reportedly collecting disability benefits from one or more government disability program in 2013. Disability checks and means-tested benefits cannot support a lavish lifestyle. But they can offer a permanent alternative to paid employment, and for growing numbers of American men, they do.

The rise of these programs has coincided with the death of work for larger and larger numbers of American men not yet of retirement age. We cannot say that these programs caused the death of work for millions upon millions of younger men: What is incontrovertible, however, is that they have financed it – just as Medicaid inadvertently helped finance America’s immense and increasing appetite for opioids in our new century.

Addictions: A startlingly high number of men without work take prescription pain medicines. Others use alcohol or other drugs. I’m sure many really are in pain, especially older men who worked on assembly lines or did other hard labor. Physical pain plus the discouragement of being unemployed plus happiness-inducing substances is a toxic and sometimes deadly combination. Quoting again from “Our Miserable 21st Century”:

You may now wish to ask: What share of prime-working-age men these days are enrolled in Medicaid? According to the Census Bureau’s SIPP survey (Survey of Income and Program Participation), as of 2013, over one-fifth (21 percent) of all civilian men between 25 and 55 years of age were Medicaid beneficiaries. For prime-age people not in the labor force, the share was over half (53 percent). And for un-working Anglos (non-Hispanic white men not in the labor force) of prime working age, the share enrolled in Medicaid was 48 percent.

If you qualify for Medicaid, then for your $3 co-pay you can get a prescription for OxyContin. The street value of that prescription is theoretically around $10,000. It’s just the most expensive street drug available. All you have to do is find a doctor willing to write that prescription, which is evidently not that hard to do. (Some 20 years ago, I was prescribed OxyContin in Mexico as a sleep aid (from a very reputable doctor), because I wanted something different from what I’d been taking. One pill knocked me for a loop for 24 hours, putting me into a very strange, mind-altering situation. I threw that bottle away and can’t imagine how anyone can function normally taking that drug. It should be banned.)

The addictions don’t simply harm the men themselves. They lead to broken homes, unwanted pregnancies, domestic violence, lost job opportunities, criminal records, and more. Eventually you get whole communities riddled with dysfunctional, addicted people. It becomes very hard for anyone to escape the cycle.

Crime: I am not talking about an increase in crime, because overall US crime is actually in a real downtrend and has been for some time. The actual, often overlooked, problem is the large number of people with criminal records. Obviously, we shouldn’t ignore crimes, but we’ve developed a system that punishes people long after their formal sentence has been served. Many jobs are simply off limits to people with a felony or drug offense on their record, and easily accessible databases mean more employers do background checks now. In Texas, as in many states, you can’t get a simple apartment lease if you have a felony conviction or, in many areas, just a felony charge. Many potential employers simply never follow up if they see that criminal record. And we are talking about a significant part of our population. While there may be “only” 1.5 million men in prison today, that population turns over and has accumulated to startling propor tions. Eberstadt sizes up the problem in “Our Miserable 21st Century”:

We have to use rough estimates here, rather than precise official numbers, because the government does not collect any data at all on the size or socioeconomic circumstances of this [felony convict] population of 20 million, and never has. Amazing as this may sound and scandalous though it may be, America has, at least to date, effectively banished this huge group – a group roughly twice the total size of our illegal-immigrant population and an adult population larger than that in any state but California—to a near-total and seemingly unending statistical invisibility. Our ex-cons are, so to speak, statistical outcasts who live in a darkness our polity does not care enough to illuminate – beyond the scope or interest of public policy, unless and until they next run afoul of the law.

Think about what this approach does. Even if a man has every intention of reforming his life, he probably can’t do so unless he gets a steady job. That won’t happen unless some employer overlooks his background and gives him a chance. The alternative is to drop out of the labor force and drift, creating and participating in all the other disorderly conditions we’ve outlined.
Elusive Solutions

As you can see, “men without work” is a tough problem. It’s as much sociological as economic, but it has a serious economic impact. Our moribund economy will have a hard enough time supporting millions of Baby Boomers who lack sufficient retirement savings (that’s a topic for another letter). Adding millions of nonworking young and middle-aged men to the dependency pool doesn’t help.

Technological solutions may not come to our rescue this time. If anything, technology is aggravating the problem by making it cost-effective for machines to do entry-level work that once needed humans. And while technology does create jobs, it is not creating entry-level jobs that don’t need education and training.

I started this letter talking about Franklin Roosevelt. He faced a similar problem when the Great Depression put millions of able-bodied men out of work. One response was national service programs like the Civilian Conservation Corps. I’m not sure something like that is feasible now. But doing nothing is not feasible, either.

My editors, Charley and Lisa Sweet, shared with me these photos of the CCC camp established in the tiny mountain community of Suches, Georgia, in 1933. The Corps helped to build and improve roads, construct three lakes, create infrastructure at two nearby state parks, improve the Georgia portion of the Appalachian Trail, and build trail shelters that still serve hikers today. Camp Woody afforded purposeful work for about 130 men and made a lasting impact in the area. (Photos are from Arthur Woody and the Legend of the Barefoot Ranger, by Duncan Dobie. Arthur Woody was Lisa’s great-grandfather.)

Men without work eventually become men without hope, and that’s bad for everyone.

Dallas, Washington DC, Atlanta, Augusta, and Tampa

I am back in Dallas for the next 10 days, hoping to use the time to catch up and reduce the 401 emails in my inbox. While I enjoyed my foray into New Jersey and getting to meet so many interesting people, I really did physically overdo it, and meanwhile the emails just piled up in drifts. But the writing deadlines never go away.

I will be in Washington DC on April 5 for George Friedman’s Geopolitical Futures Conference. I am really looking forward to this gathering, and I think there are a few spots left. Geopolitics specifically and politics in general have become more important than ever to our future in investing. I don’t particularly like that reality, but I have to live and invest in it.

I will go from DC to an evening in Atlanta before making my way to Augusta, Georgia, where Shane and I will be the guests of good friends at the Masters. I haven’t had much time for golf in the past few years, but I have always wanted to watch the Masters live on Saturday and Sunday with people who can make sure that I get to see the action, and on the most beautiful and storied golf course in the world.

I fly the next day for Tampa, where I will be in meetings with my friend Patrick Cox as some of his cutting-edge biotech friends come in to give us insights on their latest research. I don’t know how Patrick finds some of these researchers and gets in contact with them. Many of them are quite famous, but for whatever reason he seems to be able to get on the inside and tease information from them and share it. Some of the things they are discovering about the potential for postponing the ravages of aging are truly astounding, and I feel that I simply have to take a day out to absorb some of the latest and greatest developments. We do live in interesting times.

It is with more than a little nostalgia that I note the passing of Chuck Berry at age 90. Yes, I drove around in my car with no particular place to go, listening to his music. He was the true father of rock ’n’ roll and inspired later generations of musicians from the ’60s and ’70s – some of the most famous bands of that era covered his music, including the Beatles, the Rolling Stones, the Beach Boys, and so many others.

Many of us know his music, but not that many know his story. He spent some time in reform school, where he actually formed a quartet that was allowed to perform outside of the prison. He made two more trips to prison in his life. I add that note in the context of our discussion about the 20,000,000 felons we have here in the US. Think about how much poorer the world would be if Chuck Berry had not been able to make it just because he had a felony record.

Go to Google and type in “YouTube Chuck Berry.” Start with “Maybelline” and “Johnny B. Goode,” and then keep going. Chuck had dozens of hits, and the amazing thing is, he wrote his own material.  What I did not expect to find was a jam-session concert, evidently at the Rock ’n’ Roll Hall of Fame, with Chuck Berry, Little Richard, and Jerry Lee Lewis. Then I noticed that the backup band was a young Bruce Springsteen and the E Street Band – and oh my God, there was Stevie Ray Vaughn!

As I hit the send button today, I fantasize about that moment in the future when an alien culture intercepts the Voyager satellite that we sent into space during Jimmy Carter’s presidency. They listen to all the sounds and read our science and literature and then come to the music, where they appreciate the majesty of Bach and Beethoven; but it is the one rock ’n’ roll song, Chuck Berry’s “Johnny B. Goode,” that makes them decide to come visit our planet. Yes, I still think it’s rock ’n’ roll music forever. RIP, Chuck Berry.

And with that, you have a great week. And if you’re of a certain era, let yourself get a little nostalgic kicking around on YouTube listing to Chuck Berry and all the other rock ’n’ roll greats. Sometimes you have to feed the soul.

Your thinking he should listen to more music analyst,

John Mauldin

Everything the Market Thinks About Inflation Might Be Wrong

How much money a central bank prints may be less important to inflation than commodity prices

By Jon Sindreu

For decades, the assumption has been that central banks have the ultimate handle on inflation. Above, the Federal Reserve building in Washington, D.C. Photo: Andrew Harrer/Bloomberg News

No number is more important for investors right now than inflation. The belief that it will continue to rise underpins the recent rally in financial stocks and the slump in government bonds. It is key to commodities, currencies and more.

Yet investors are in a quandary: Theories used to forecast it just don’t seem to work.

“I don’t think we know what inflation is. It takes so many different forms,” said David Lafferty, chief strategist at Natixis Global Asset Management, which manages about $900 billion. Inflation is this year’s “wild card,” Mr. Lafferty said.

For decades, the assumption has been that central banks have the ultimate handle on inflation. When inflation goes up, they raise interest rates to quell it; when it goes down, they lower the rates.

Investors care a lot, because bond yields broadly track interest rates. They need to predict inflation levels as well as how central banks would react.

Neither is easy, and it just got more complicated: After years of postcrisis monetary experimentation, it’s not even clear central bankers can do much about inflation at all.

On Friday, five top economists presented a paper at a monetary-policy conference saying the main gauges policy makers typically use to understand inflation—such as “slack” in the labor market—don’t actually explain it.

What’s more, the last several years of extraordinary monetary policy have shaken a theory that had held sway for decades in financial markets: American economist Milton Friedman’s view that inflation is ultimately a function of how much money a central bank prints.

That theory posits that if the economy has only two cars and two dollars, each car has to be worth $1. When the central bank issues two more dollars, there’s suddenly $2 for every car: inflation. And what people think inflation will be in the future is crucial: Workers will bargain harder for pay raises if they believe prices will rise faster in the years to come.

Yet, after the 2008 crisis hit, central banks in developed economies slashed interest rates and printed trillions of dollars, euros, pounds and yen. Many investors and policy makers believed inflation—and a selloff of government bonds—would soon follow.

“I thought we’d see inflation before authorities could respond,” said James Athey, a fund manager at Aberdeen Asset Management. So confident was one former eurozone central-bank governor that, over dinner in late 2013, he made a 10 Hong Kong dollar bet (pegged by the government at $1.29) with economics professor Ken Kuttner that money printing would cause inflation to soar.

It didn’t. In fact, economists who study central-bank operations broadly believe that the amount of money created is a consequence of rising prices, not the cause. That is, if the price of cars goes from $1 to $2, the central bank will eventually need to issue more money to prevent money from getting scarce and interest rates from skyrocketing.

“I think I can count those 10 Hong Kong dollars as money in the bank,” said Mr. Kuttner, of Williams College.

Mr. Athey laments not having bet heavily on U.S. Treasury bonds, which have been on a roll since 2008. “The bond investor community in aggregate for a long time got that wrong.”

Friday’s research also found little connection between people’s expectations of future inflation and what prices actually turn out to be.

The reality check for economic theory goes further: Surveys show that lower interest rates aren’t a key factor in the decisions of households and businesses to take on credit and spend more.

If central banks printing money and lowering rates doesn’t cause inflation, what does?

Investors are scrambling for alternative answers.

Before the 1980s, many economists described inflation as coming from a complex mix of sources. Companies nudged up prices when their input costs were higher—“cost-push” inflation—or when shelves were depleted by booming sales—”demand-pull” inflation.

Indeed, some money managers today believe President Donald Trump’s tax-cutting policies may spur demand and thus inflation. His protectionist policies may also push up domestic wages and make imported goods more expensive.

Yet, historically, a better guide to inflation has been prices of raw materials, largely commodities. Swings in oil markets and market expectations of long-term inflation have moved in lockstep. Arend Kapteyn, chief economist of UBS’s investment bank, calculates that 84% of the variation in inflation since 2002 is explained by shifts in oil and food prices.

Demand may play a small role indeed in fueling inflation. Research finds that businesses rarely price their products based on how much they are able to sell. Rather, companies pass on to consumers as much of their costs as competition will allow. Throughout history, most sudden spikes in inflation were preceded by rising commodity prices pushing up costs.

But even costs are complicated to measure. Wages aren’t negotiated in the smooth manner economists imagine, because power dynamics between employers and employees can shift. A globalized workforce, weaker unions and changing government policy likely play strong roles in keeping prices down.

Analysts and investors are paying closer attention to indicators like corporate margins and the amount of industry concentration. Fatter profits allow companies to respond to rising commodity and labor costs without increasing prices, but a position of monopoly can lead them to pass on costs to consumers regardless.

Mark Tinker, head of AXA IM Framlington Equities Asia, said the current rise in prices doesn’t give him the information needed to forecast the future. “An indication of pricing power is much, much more relevant,” Mr. Tinker said.

Central bankers’ reactions have also changed. Economists believe that house prices and household debt loads now play a more important role in their decisions.

Neil Williams, chief economist at Hermes Investment Management, is looking at land prices to gauge whether Japanese officials would start rolling back two decades of ever-increasing stimulus. In the past, a fall in the value of land has always driven them to backtrack, Mr. Williams said.

To be sure, many investors still fear the danger they see in all the money printed by central banks, economists say.

“‘Too many dollars chasing too few goods’ is easy to explain, and it’s a theory that can almost fit on a bumper sticker,” Mr. Kuttner said, who is still waiting for his opponent to concede the $1.29 bet. The former central banker declined to comment.

Adjusted for inflation, the prize is still worth $1.24 after more than three years.

A word of caution on the bond-stock decoupling
Equity market optimism is not reflected in bonds. How significant is this divergence?       
by: Mohamed El-Erian

In the last few days, several market participants and watchers have highlighted a decoupling of equity and fixed-income markets that has seen the Dow Jones and S&P indices soar impressively to record highs while yields on 10-year and 30-year US government bonds have remained relatively low. One respected observer noted that “bond investors do not believe the excitement over growth in the stock market”. Another, equally astute, commentator wrote that “bond investors are sending a very different view”.

This would not be the first time bond and stock markets have sent different messages; and it would be a bigger potential issue for stock than bond investors who operate more in macro space and can claim greater insights on economic prospects. Specifically, while the shorter-end of the yield curve for government bonds is anchored by central banks, the rest is much more susceptible to how market participants see the prospects for economic growth and inflation. The same goes for spreads on corporate bonds, though they are also affected by the prospects for corporate liability management and new issuance, including how this is distributed throughout the capital structure.

But before pressing hard on the stock/bond divergence alarm, investors should think about five issues associated with what has been happening in the trifecta of fixed income, equities and foreign exchange.

Not all segments of the bond markets are giving the same signal. While yields on 10-year and 30-year US Treasuries remain relatively low and fuel growth scepticism, corporate bond spreads have been sending an opposite signal — by compressing significantly, with the riskier credits in high yield and emerging markets outperforming. The same is true of non-agency mortgages where, again, a notable part of the expected return reflects expectations of better economic conditions.

Europe continues to influence longer-dated US Treasuries. With financial globalisation where capital flows across national borders looking for higher returns, US government bonds offer a yield pick-up on “risk-free” exposures. Continental rates are depressed by a more dovish European Central Bank and by the unusual degree of political risks associated with a heavy election calendar that cannot ignore anti-establishment movements (including France and the Netherlands). Indeed, you need only look at the persistence of negative yields on several German government bonds, the closest international substitute for Treasuries when it comes to credit quality in government bond markets.

Foreign exchange markets are less able to reconcile divergent interest rate prospects. In a world of policy and economic decoupling, exchange rates would adjust and act as a counterbalance to cross-border bond flows. But dollar appreciation may well have been tempered by the unconventional approach that the Trump administration has taken to currency commentary — one that has seen a change in both messaging, with a departure from the “strong dollar” mantra, and in messengers, with more officials commenting on a policy issue that has traditionally been reserved for the Treasury secretary.

Anticipated flows act as additional fuel for the equity rally. Anecdotal evidence suggests that stock investors are looking forward to a future involving bigger inflows into the marketplace. A large part would come from corporate cash currently held abroad that, following anticipated policy changes by the Trump administration as part of its planned tax reform initiative, would be repatriated and partially deployed for share buybacks, higher dividend payments and stepped-up M&A activity. A smaller part would come from underexposed investors putting more funds to work in the stock market.

Framing differences matter. Given the different risk/return construct of their markets, bond investors tend to place greater weight on downside risks compared with stock investors who are typically a more optimistic bunch. The impact of this and other behavioural considerations is greater in an uncertain world where President Donald Trump’s fiscal and deregulation measures face tricky design and implementation issues, there are competing signals on trade, congressional posturing is far from over and the US economy continues to face structural headwinds to higher and more inclusive growth.

The net impact of all this is not to doubt the validity of the view that bond and stock markets are on different wavelengths. Rather, it is to caution against making too much of the divergence at this stage, pending more detailed analysis.

Mohamed El-Erian is chief economic adviser to Allianz and author of ‘The Only Game in Town’

Rewriting the Monetary-Policy Script

Michael Heise
. US Federal Reserve

MUNICH – How long will major central banks blindly rely on rigid rules to control inflation and stimulate growth? Given the clear benefits of nimble monetary policy, central bankers need to open their eyes to the possibilities that flexibility affords.
The rule of thumb for monetary policymakers has long been that if inflation is below official target ranges, short-term interest rates should be set at a level that spurs spending and investment. This approach has meant that once interest rates reach or approach zero, central banks have little choice but to activate large asset-purchase programs that are supposed to stimulate demand. When circumstances call for it, policymakers default to the predetermined scripts of neo-Keynesian economic models.
But in too many cases, those scripts have led us astray, because they assume that monetary policy has a measurable and foreseeable impact on demand and inflation. There is plenty of reason to question this assumption.
For starters, households have not responded to ultra-low interest rates by saving less and spending more. If savings no longer yield a return, people can’t afford big-ticket items or pay for retirement down the road. Likewise, companies today are faced with so much uncertainty and so many risks that ever-lower costs of capital have not enticed them to invest more.
It’s easy to see why, despite the data, predetermined formulas are attractive to monetary policymakers. The prevailing wisdom holds that in order to return the inflation rate to a preferred level, any slack in the economy must be eliminated. This requires pushing interest rates as low as possible, and when these policies have run their course (such as when rates dip toward the negative), unconventional instruments like “quantitative easing” must be deployed to revive growth and inflation. The paradigm has become so universally accepted – and the model simulations underpinning central banks’ decisions have become so complex – that few are willing to question it. For individual central banks or economists, to do so would be sacrilege.
Central banks do not completely deny the economic costs that these policies imply: exuberance in financial markets, financing gaps in funded pension systems, and deeper wealth inequality, to name just a few. But these costs are deemed an acceptable price to pay to reach the clearly defined inflation level.
Yet the policies pursued in recent years have given no room for the intangibles – unstable political environments, geopolitical tremors, or rising risks on financial markets – that can send models off course. As the 2008 financial crisis illustrated, the normal distribution of risk was useless for predictions.
Keynes never tired of arguing that monetary policy becomes ineffective if uncertainty is sufficient to destabilize the expectations of consumers and investors. Unfortunately, many central banks have forgotten this. The Bank of Japan, the Bank of England, and the European Central Bank all hone to rather rigid policy rules. If expansionary policies fail to have the desired effect of lifting inflation to the predefined level of around 2%, they do not question their models; they simply increase the policy dosage – which is just what markets expect.
For now, the US Federal Reserve has the most flexible toolkit among the major central banks.

In addition to inflationary pressure, the Fed’s monetary policy must also take into account employment statistics, growth data, and the stability of financial markets. But even the Fed’s flexibility is under siege. Republican lawmakers are discussing how to bind the Fed to more scripted policy rules to manage inflation (using a formula known as the Taylor rule, which predetermines changes in the federal funds rate in relation to inflation and an output gap).

Needless to say, such a move would be a mistake.
Central banks (not to mention lawmakers), with their strong attachment to neo-Keynesian theory, are ignoring a major lesson from decades of monetary-policy experimentation: the impact of monetary policy cannot be predicted with a high degree of certainty or accuracy. But the belief that it can is essential to the credibility of the now-standard inflation targets. If central banks keep missing these rather narrow marks (“below, but close to 2%”), they end up in an expectations trap, whereby markets expect them to dispense ever higher doses of monetary medicine in a frantic attempt to reach their target.
Clearly, such monetary policies create soaring costs and risks for the economy. And central banks themselves are coming dangerously close to looking like fiscal agents, which could undermine their legitimacy.
A new and more realistic monetary paradigm would discard overly rigid rules that embody the fallacy that monetary policy is always effective. It would give central banks more room to incorporate the risks and costs of monetary policies. With such a paradigm, central banks could move away from negative interest rates and large-scale asset purchases. They would define their inflation targets more flexibly, to avoid being forced into action whenever “uncertainties” such as declining oil prices or required wage adjustments cause inflation to move above or below 2%.
Perhaps most important, a new paradigm would acknowledge the limits of central banks’ power and foresight. That would remove an alibi that governments too often hide behind to avoid introducing the structural reforms that really matter for long-term growth.

The Growing Gap Between Jobless Claims and Job Losses

Just what does it say about the U.S. labor market? Here are a few ideas

By Jeffrey Sparshott

    People wait in line to attend a technology job fair in Los Angeles in January. Photo: Lucy Nicholson/Reuters

There is a growing gap between the number of workers losing their jobs and the number applying for unemployment benefits, and it’s not entirely clear why.

Layoffs have been stable since 2013. Claims have continued to drop.

“So there is something else putting downward pressure on claims,” said Heidi Shierholz, senior economist at the Economic Policy Institute, a left-leaning think tank.

That “something else” could be more than one thing, not all good—such as tenuous work arrangements or difficulty applying for benefits. A more positive explanation could include the relative ease of job-hopping in an expanding labor market.

The most recent data is particularly stunning. The number of U.S. workers filing for first-time unemployment benefits fell to the lowest level in 44 years for the week ended Feb. 25.

At a seasonally adjusted 223,000, initial jobless claims, often used as a proxy for layoffs, were the lowest since the final week of March 1973. And that’s when the U.S. labor force was a mere 89 million, about 44% smaller than in January.

The initial claims series is valued for its frequency, timeliness and relatively long history—it’s week-old data that reaches back to 1967, allowing historical comparisons through multiple economic cycles. The Job Openings and Labor Turnover Survey, by comparison, is only monthly, dates back to 2000 and lags claims by nearly two and a half months. A comparison of two series, however, shows a significant divergence.

The last time the unemployment rate was similar to today’s, in 2006 and 2007, roughly 76% to 78% of layoffs and discharges led to an unemployment claim. That fell to about 70% in 2016.

Ms. Shierholz surmises more people are falling through the cracks of the unemployment-insurance system, possibly because of more precarious work arrangements as contractors or temps, or difficulty applying to and qualifying for the state-run programs.

The National Employment Law Project, a nonprofit research and advocacy group, also has tracked the decline in unemployment claims.

“In general, we’re concerned that significant numbers of involuntarily unemployed workers are being prevented from receiving benefits to which they may be entitled, especially workers with labor market disadvantages like limited English proficiency, limited experience with computer technology, limited literacy,” said Claire McKenna, a senior policy analyst at NELP.

For example, states that shift to online claims filing from telephone filing may be locking out of the application process people who don’t have ready access to the Internet or the kind of documentation needed to qualify, she said.

Broader economic forces also could be at work. The share of people moving into jobs who had been out of the labor force—new entrants and reentrants—has passed prerecession levels. Such workers are often don’t qualify for benefits if they lose a job because they don’t have much of a work history.

Finally, many people may not bother to apply if they believe their prospects are bright.

Workers generally aren’t eligible for unemployment insurance if they quit a job. Nevertheless, the number of quits has surpassed prerecession highs as hiring remains brisk and wages show some signs of improvement.

That leaves most economists upbeat about the latest claims numbers, even with some caveats.

“The data are unambiguous evidence that the labor market in the U.S. continues to tighten,” said Rob Martin, economist at Barclays. “Workers are not being laid off in large numbers. The breadth of improvement across states indicates that this is a national phenomenon.”

Trump Knows the Feds Are Closing In on Him

The president’s recent tweets aren’t just conspiratorial gibberish – they’re the erratic ravings of a guilty conscience.

By Max Boot

Trump Knows the Feds Are Closing In on Him

It didn’t last long.

Immediately before and after his well-received speech to a joint session of Congress on Feb. 28, President Trump curtailed his use of Twitter. “For precisely four days, eight hours and five minutes, Trump refrained from tweeting anything inflammatory,” the Washington Post noted. “That’s 6,245 consecutive minutes!”

That self-restraint began to break down on the evening of March 2, just two days after his big speech, when Trump accused Democrats of having “lost their grip on reality” and engaging in a “total ‘witch hunt.’” Just before 1 p.m. the next day, he tweeted a picture of Vladimir Putin and Sen. Chuck Schumer (D-N.Y.) having coffee and donuts, lifted directly from the Drudge Report, accompanied by the mock demand for “an immediate investigation into @SenSchumer and his ties to Russia and Putin. A total hypocrite!” Then a few hours later came a picture of Rep. Nancy Pelosi (D-Calif.) meeting with Russian President Dmitry Medvedev and Ambassador Sergey Kislyak in 2010 underneath the caption: “I hereby demand a second investigation, after Schumer, of Pelosi for her close ties to Russia, and lying about it.” (It took the president with the “very good brain” three tries to spell “hereby” correctly, having first tried “hear by” and “hearby.”)

The presumption behind those tweets was that there was some kind of ethical or legal equivalence between the public meetings that Democratic lawmakers held with Russian leaders and the lies — in Attorney General Jeff Sessions’s case under oath — that Trump aides told about their own private meetings with Russian representatives while Putin was intervening in the presidential election to help Trump. This notion can only be credible to the most purblind Trump partisans — the same people who would take seriously Trump’s even more sensational allegations, soon to come.

At 6:35 a.m. on Saturday, March 4, the president of the United States tweeted from his weekend getaway, Mar-a-Lago: “Terrible! Just found out that Obama had my ‘wires tapped’ in Trump Tower just before the victory. Nothing found. This is McCarthyism!” A few minutes later: “Is it legal for a sitting President to be ‘wire tapping’ a race for president prior to an election? Turned down by court earlier. A NEW LOW!” Followed by: “How low has President Obama gone to tapp my phones during the very sacred election process. This is Nixon/Watergate. Bad (or sick) guy!” (“Tapp”? “Hearby”? Doesn’t Trump’s phone have a spell-checker?)

Having supposedly uncovered a scandal comparable to Watergate, what did the president do next? He took a respite from Twitter for more than an hour, until 8:19 a.m., when he sent out an insult against the actor who replaced him on The Celebrity Apprentice: “Arnold Schwarzenegger isn’t voluntarily leaving the Apprentice, he was fired by his bad (pathetic) ratings, not by me. Sad end to great show.” (So much for Trump’s premature claim to Congress on Tuesday night that the “time for trivial fights is behind us.”) And then he headed out for a nice round of golf.

It was left to Trump’s aides, the news media, and members of Congress to answer the “Huh??? What???” questions. Had Trump actually gotten his hands on classified information that the FBI had wiretapped him during the Obama administration? There are only two ways this could have occurred: Either the FBI had presented a court with evidence that Trump was engaged in criminal activity or was an agent of a foreign power, or Obama had ordered an illegal wiretap. Either conclusion would be scandalous. But after a frantic weekend of fact-checking, no evidence whatsoever was presented by the White House to support Trump’s allegations, which were denied by everyone from Obama’s spokesman to James Clapper, the former director of national intelligence, and FBI Director James Comey.

It’s possible that Trump aides were wiretapped as part of a broader FBI probe into the connections between the Trump campaign and the Kremlin or were simply recorded, as had been the case with former National Security Advisor Michael Flynn, during the routine monitoring of Russian officials. But there is no reason to think that Trump himself had been a target of the wiretapping, nor that Obama interfered in the lawful workings of the FBI.  It appears that Trump had gotten his information not from a top-secret briefing but from a Breitbart article long on innuendo and short on verifiable facts.

One would be tempted to say that the president’s reliance on “alternative facts” to smear his predecessor is the real scandal here were it not for the fact that an actual, honest-to-goodness scandal — one that may conceivably rival Watergate — is at the bottom of this ruckus. Why, after all, did Trump have a midweek meltdown that dashed pundits’ hopes that he would act in more sober fashion? The answer is as obvious as it is significant: On the evening of March 1, the day after his lauded speech, major new revelations emerged about the mysterious links between the Trump camp and the Kremlin.

The New York Times was first out of the gate that evening with a story reporting: “American allies, including the British and the Dutch, had provided information describing meetings in European cities between Russian officials — and others close to Russia’s president, Vladimir V. Putin — and associates of President-elect Trump, according to three former American officials who requested anonymity in discussing classified intelligence. Separately, American intelligence agencies had intercepted communications of Russian officials, some of them within the Kremlin, discussing contacts with Trump associates.”

The Times story would have been big news were it not almost immediately overshadowed by a Washington Post article with an even more alarming finding: “Then-Sen. Jeff Sessions (R-Ala.) spoke twice last year with Russia’s ambassador to the United States, Justice Department officials said, encounters he did not disclose when asked about possible contacts between members of President Trump’s campaign and representatives of Moscow during Sessions’s confirmation hearing to become attorney general.”

Smaller but still significant revelations followed the next day. The Wall Street Journal reported that Donald Trump Jr. “was likely paid at least $50,000 for an appearance late last year before a French think tank whose founder and his wife are allies of the Russian government in efforts to end the war in Syria.” (What could Trump Jr. say that would possibly be worth $50,000?) J.D. Gordon, Trump’s national security advisor during the campaign, admitted that, contrary to his earlier denials, he had directly intervened at Trump’s instigation to remove the language in the 2016 Republican platform which had called on the United States to arm Ukraine against Russian aggression. And campaign advisor Carter Page admitted that, contrary to his earlier denials, he had met with the Russian ambassador at the Republican National Convention. It is hard to imagine why so many people would lie if they didn’t have something pretty significant to cover up.

Out of all of these revelations it was the news about Sessions — which may open him to perjury charges — that was the most significant. In response to the Post report, the attorney general was forced to recuse himself from the Kremlingate inquiry, much to the fury of President Trump, who was not consulted about this decision. This is what led to Trump’s wild-eyed rants on Twitter, designed to distract from the real scandal and to convince his more credulous followers that he is the victim of a plot by his predecessor.

But why would Sessions’ recusal make Trump so unhinged? The president must have felt relatively confident that the “Kremlingate” probe would go nowhere as long as it was in the hands of Trump partisans such as Sessions, Rep. Devin Nunes of the House Intelligence Committee, and Sen. Richard Burr of the Senate Intelligence Committee. But with Sessions out of the picture, the way is now clear for the deputy attorney general — either the current placeholder, career Justice Department attorney Dana Boente, or Trump’s nominee to replace him, Rod Rosenstein, another career government lawyer — to appoint a special counsel because of the “extraordinary circumstances” surrounding this case.

A special counsel would not have the same degree of autonomy as the independent counsels who in the post-Watergate era probed executive-branch misconduct until the law authorizing such appointments expired in 1999. Independent counsels were appointed by, and answerable to, a three-judge panel; special counsels can be appointed, and fired, by the Justice Department. But a special counsel would be expected to investigate much more aggressively than the White House would like, and firing a special counsel would only aggravate the scandal. In addition to a special counsel, Congress could and should appoint a joint select committee to look into Kremlingate and issue a public report, but a special counsel would be likely to conduct a more professional investigation and, unlike lawmakers, would possess the power to indict, which may help loosen the tongues of suspects.
There is a good reason why Trump and his partisans are so apoplectic about the prospect of a special counsel, and it is precisely why it is imperative to appoint one: because otherwise we will never know the full story of the Kremlin’s tampering with our elections and of the Kremlin’s connections with the president of the United States. As evidenced by his desperate attempts to change the subject, Trump appears petrified of what such a probe would reveal. Wonder why?

Max Boot is the Jeane J. Kirkpatrick senior fellow for national security studies at the Council on Foreign Relations. His forthcoming book is “The Road Not Taken: Edward Lansdale and the American Experience in Vietnam.”