William Dunkelberg

Professor of Economics at Temple University, formerly Dean of the Fox School of Business

Notes on the Economy

November 24, 2007

1. Recent tests of airport screening security were not very comforting. Passenger screeners missed over 70 percent of the bombs and bomb parts in testers' luggage at airports like Chicago and Los Angeles. The fact that each passenger will be screened certainly still creates an important deterrent to terrorists or crazy people, but it would be nice if the success rate for detection were a bit better.

In fact it was, at one airport, San Francisco, where only 20 percent of the fake bombs got through. Still too high for comfort, but certainly much better.

What explains the difference? Well, there is probably more to the story, but on the surface, it is the private security firm at San Francisco that has outperformed all the government TSA workers at other airports. If the private firm does not do well, it will be fired. No such incentive for the government TSA workers who are trying to unionize to gain even more job security. So let's vote, all in favor of government run health care raise your hand?

2. The Fed has cut rates twice now, a total of three quarters of a point. Hours before the second cut, the government reported the real economy grew at an annual rate of 3.9%, up from 3.8% in the second quarter and the best 6 months of growth in 4 years. And, this growth happened as the housing component fell 20%, taking a point off of the growth rate.

Seems like a disconnect, as if the Fed didn't get the news. We are told that the rate cut would help stabilize the housing market. It is hard to see why this would be of much help, we built way too many houses in the bubble and it will take a long time for the population demand for housing to catch up. In the meantime, house prices will be weak in many markets and few additional houses will be built or sold.

Most banks were hurt by the cuts, losing 3/4ths of a point in revenue on all of their variable rate loans and lines of credit. Savers lost as the return on their money market funds fell 3/4ths of a point. Long term interest rates rose, signaling a concern about future inflation as the Fed prints money to reduce interest rates.

The lower rates did help out large financial institutions like Citicorp who made bad bets. Lower interest rates make their lousy mortgage assets look less lousy, like putting lipstick on a pig. But when billions of dollars are at stake, even a little improvement is worth a lot when you don't have to pay for it, it's compliments of the Fed. Of course, the economy grew well above trend in the third quarter and job creation in October was very strong. Hmmmm.... About that recession the rate cuts are supposed to help? Not in sight yet. Stay tuned.

3. In spite of all the bad news about Wall Street, the Main Street indicators remain solid. The unemployment rate of 4.7% is one of the lowest in history. The percent of the adult population with a job is the highest in history except for a few dot com years. Inflation is low, interest rates are low, incomes are rising, there are 100,000 net new jobs every month. Although house prices are falling in some markets, this is after years of strong increases. And the stock markets have been helping consumer balance sheets. So, overall, quite good.

The Fed says it is worried that the economy will slip into recession. But economic growth in the second and third quarters was the best in four years and well above trend, so the economy would have to stumble hard in the fourth quarter to start a recession now.

Most likely, the fourth quarter will be quite strong and we will have a happy holiday shopping season.

4. Ten years ago, oil was $10 a barrel. Now it is over $90, a 9 fold increase. Yet the U.S. economy has continued to prosper. Economic growth over the past six months has been the best in four years. Every dollar increase in the price of oil is like a $5 billion dollar tax increase. Do the math, 80 dollar increase times $5 billion equals a 400 billion tax, substantial, but a 13 trillion dollar economy can handle it.

All this money goes to the owners of oil, many of whom don't like us very much. We try to get them to spend the money here to replace the spending you can't do because of high energy prices.

Will oil top $100? Quite likely, as uncertainties about world oil supply abound. Estimates put the risk premium per barrel at $20 to $40 dollars as the price of oil for future delivery rises every time an oil producing region experiences political volatility. But I guess since we survived a 900% increase, a few more dollars taking us to $100 will hardly be noticed.

5. Although there is much wrong with our system of education, the major source of educational failure lies at the feet of parents, rich and poor. Hopefully, the baby boom parents will be the worst ever, and we'll improve from here. Too many parents are too busy with their lives to really invest in the development of their children. The rich have careers, the poor have drugs and both have broken families. Children are not "Job 1", the rich give them cars and money and send them to the malls to hang out (some malls are banning youngsters on weekends). The poor work hard, have separated families, or are on drugs and have no job, setting a poor example and providing no guidance (religion used to provide a source of strength in these families). They are taught to blame others for their failures and to never take responsibility. Respect is not taught, so kids arrive at school for Grade 1 entitled, undisciplined and disrespectful of their teachers and their fellow students and their right to learn. My daughter attended a school in a very high income district and told me how much time teachers spent just trying to maintain order. If a teacher tries to discipline a student, lawyers show up. To be PC, we can't segregate the few who inhibit learning from those who want to learn. Teachers can't fix this, no matter how much we pay them.

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