Wednesday, August 12, 2009

Bullish Supply Side Productivity Paint

One should get conviction in supply side economics. The economists at Societe Generale have the story today:
US productivity is rapidly rising. The 6.4% annualized gain posted in Q2 was the highest since 2003. It was achieved on deep cuts in man hours (-7.6%) while output contracted more modestly (- 1.7%).
A lagged response of employment to GDP is a normal cyclical response as businesses use the first few quarters of the recovery cycle to shore up profits. In that, they appear to be succeeding. Not only is productivity up sharply, virtually all of the gains in Q2 accrued to businesses. Hourly wages were flat in nominal terms, and contracted by 1.1% in real terms. As a result, unit labour costs contracted by 5.8%.
Such a steep contraction in unit labour costs is not unprecedented, but it is rare. The last time it occurred was in 2001, or in the late stages of the previous recession. It was a time when ULC exhibited strong volatility, but the y/y trend at its trough experienced a sharp drop of 3.2%. In contrast, unit labour costs are now down 0.6% on y/y basis.
The charts below show profit proxies derived from the productivity report. Historically, the proxies have had a modest lead on profits. The overall picture looks quite strong, with non farm profits expanding at the fastest pace since 2004.
So what does it all mean for the economic outlook? To the extent that profits are up, layoffs should begin to slow, stabilizing employment. Increased profits should also strengthen corporate credits and improve the availability of financing. Ultimately, improved cash flow (internal financing) and access to external financing should encourage business investment which has fallen below the rates of depreciation. This last impact is not immediate, but some of the necessary conditions for an investment rebound are slowly falling into place.
It is almost sure there will be some inventory rebuild. Assuming the steepness of the drop in economic activity in 4th quarter of last year, it is almost certain that achieving of positive year-on-year growth rates should be quite easy? Well, "cash for clunkers" will boost some pent-up demand in auto sector, but bring forward also some future demand. Infrastructure programs will boost some investment activity ...

Further on, I do not think that good corporate credits had ever a problem to raise some money. I thought it was banking system seizing up all the credit flow and driving the costs to the sky?

But, if the US household consumption remains weak and there is no real re-leveraging emerging?
Well, Asian consumer is there ...

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