April showers bring May flowers. Or that’s how it is supposed to be.
Despite the announcement of some ‘fragrant flowers’ of economic activity in this early part of May, the financial markets are feeling the gloominess of rain. There have been many positive economic announcements over the past two weeks, but the stock and bond markets have turned sharply lower.
Just this week a gain in the private sector labor market was announced. ADP Employer Services released its monthly report on Wednesday, showing an increase in 32,000 U.S. jobs for April. The last time this report showed job gains was January 2008.
Also this week, manufacturing activity was reported higher for April, as measured by the Institute for Supply Management survey of factory purchasing managers. The U.S. Commerce Department also said consumer spending increased 0.6 percent in April. Even construction spending was up.
So much for the good news.
This is all offset with concerns of greater defaults by Greece and the many other countries with high debt levels. The risk that Greece may have to restructure its public debt, or simply experience much slower growth in the future along with its European neighbors, is leading to large selling volumes in the stock and bond markets.
In times of uncertainty like this, capital flows to the relative safety of the U.S. Treasury market. The yield on the benchmark 10-year Treasury note has fallen to near 3.5 percent from 4 percent at the start of April. As investors buy these safer securities, their prices rise and the return, or yield, falls.
As money moves to the dollar-denominated Treasury market, the euro has lost 5 percent of its value. The 4 percent drop in the Standard and Poor’s 500 index of stocks is another indicator of a flight to safety.
Measures of a heightened risk awareness are rising rapidly. The VIX index, which uses option prices to measure the expected volatility of stock prices going forward, has risen 60 percent since early April, from 16 to 26. The index is still well off its highs near 80 during the height of the financial crisis in September and October 2008, but at 26 is well above the long-term average of 20.
The key implication of higher risk levels in the capital markets despite good news about economic activity is a lower level of real investment and a prolonged period of higher unemployment.
The good news from the manufacturing sector does not mean firms are investing more in their plant and equipment. For example, the car manufacturers reported April sales gains of about 25 percent, and capacity utilization at steel plants is up to 70 percent from 45 percent last summer, as announced by the sales tracking firm Autodata and American Iron and Steel Institute, respectively. However, the auto companies are in no position to open new plants and hire more workers, and it will take utilization rates above 90 percent before the steel industry expands.
The good economic news is due only to a continued willingness of consumers to spend despite an ugly employment picture.
The unemployment is very evident in Idaho. According to the April Idaho Employment Newsletter, the number of applicants per job listing in the state labor offices is now 10.5, compared with 2.7 before the recession began in late 2007. Low employment levels continue to damage state finances, even though we are still buying a lot of stuff. Idaho’s Division of Financial Management reported this week that preliminary data for April show total tax revenues falling $55 million short of expectations, but sales taxes are up. Sales tax receipts were $2.6 million higher than projected for the month, while individual income tax collections were $47 million lower.
Perhaps the arrival of spring encourages us to spend more, but the long-term outlook is bleak. A high level of financial market uncertainty discourages investment and holds back hiring.
May is here, but the gloomy showers of April remain.
Peter R. Crabb is a professor of finance and economics at Northwest Nazarene University in Nampa. He earned his doctorate in international and financial economics from the University of Oregon.