Is the Economy Doing as Well as the Numbers Suggest? Sage Advisory Services Fall 2007 Conference

1. Is the Economy Doing as Well as the Numbers Suggest?Sage Advisory Services Fall 2007 Conference Raymond W. Stone Stone & McCarthy Research Associates September 27, 2007

2. Nature of Economic Data Economic Data Are Largely Derived from Surveys In Contrast to: Data points from Physical Sciences Derived from “Controlled Experiments”

3. Misplaced Emphasis? • Financial Press/Talking Heads attach too much emphasis to the latest release • Economists all too often treat economic data, as “hard numbers” • Policy-Makers can be misguided by deficiencies in the data

4. Consider the Establishment or Payroll Survey of Employment • Includes: monthly inference drawn from a sample of about 330,000 establishments accounting for about 30% of all employment • Includes: adjustment for net payroll changes outside of sample due to births and deaths of businesses • Adjusted for recurring seasonality, based on the history of recent years

5. Benchmark Revisions • Once a year the BLS realigns monthly estimated payroll growth to Unemployment Insurance records • On October 5 the BLS will release a preliminary estimate of the March 2007 benchmark revision • The problems with the payroll data go beyond the magnitude or direction of the benchmark revision

6. Recall Record +752,000 March 2006 Benchmark Revision

7. March 2006 Revision Skewed Towards a Few States

8. Observations from 2006 Revisions • Largest revisions were in states with a high incidence of illegal or unauthorized workers • Largest revisions were in industries wherein a high incidence of unauthorized workers are employed • From a separate BLS survey, about 45% of all employment growth during the period was among foreign-born workers, mostly Hispanic • Wave of legislation aimed at restricting illegal workers and increasing penalties on employers that knowingly hire illegal workers

9. Inferences From 2006 Revisions • Payrolls understated, but payroll growth overstated • Much of the job growth during the period reflected illegal workers going from “off-the-books” to “on-the-books” • Wage & Salary Growth overstated • Productivity understated • Unit labor Costs overstated

10. Payrolls Understated, Payroll Growth Overstated

11. Disconnects in Current Payroll Data…How About those Residential Construction Jobs?

12. Food Service Payrolls Out of Sync with Expenditures at Food Service Outlets

13. March 2007 Benchmark Revision should be downward (to be released on October 5)

14. But even if the Benchmark Revision is not negative, Payroll Growth is still overstated • The shifting of illegal workers from “off-the-books” to “on-the-books” renders an increase in the rolls of unemployment insurance eligibility, but really isn’t an increase in employment • Overstatement of Payroll Growth renders an overstatement of Personal Income Growth • Overstatement of Payroll Growth renders an understatement of productivity growth

15. Policy Decisions Misled by Payroll and Income Data? (August 7 FOMC minutes) In their discussion of monetary policy for the intermeeting period, Committee members again agreed that maintaining the existing stance of policy at this meeting was likely to be consistent with the overall economy expanding at a moderate pace over coming quarters and inflation pressures moderating over time. The expansion would be supported by solid job gains and rising real incomes that would bolster consumption

16. What About Construction Productivity?

17. X-Construction, Productivity Stable

18. Potential GDP, the economy’s “speed-limit” may be a little faster than the Fed thinks