Recession debate not decided, poverty in some perspective

Purchasing managers' indices are disappointing. The United States economy is stronger than expected, but I think it's temporary. I do not see where an acceleration of growth in Europe should come from. According to the Central Planning Bureau (CPB), poverty will increase next year, but the long-term trend of poverty will decrease. Labor participation and training are crucial, but people with a non-Western migration background score poorly on both factors. Effective poverty policy should focus on this

In terms of the business cycle, I would like to point to S&P Global's preliminary business confidence data: the Purchasing Managers' Indices. They don't look pretty for Europe and the US in August. The composite index (that is, the industrial and services sector combined) for the eurozone stood at 47,0 in August. It is the third month in a row below 50. That figure is the tipping point from growth to contraction. The figure had not been this low in 33 months. In the US, this measure fell to 50,4, just above the boom-bust point.

Loyal readers know that I have been concerned about German industry for some time. The purchasing managers' index for August in the German industry is certainly not positive. It came to 39,7, after 41,0 in July. The last time the confidence index was even lower was in May 2020.

I have long argued that a recession is inevitable. Germany and the Netherlands have already experienced two quarters of contraction. The eurozone as a whole and the US do not have that. Optimism is growing, especially with regard to the US, that the economy will avoid a sharp slowdown in growth, let alone a recession. In fact, the Federal Reserve of Atlanta calculates a so-called GDPNow. That weekly measure reflects GDP growth in the current quarter based on macro data published to date. The most recent calculation for the current quarter is 5,9% annualized growth compared to the second quarter. That's high.

Don't worry about avoiding a recession
I cannot deny that the strength of the US economy surprises me. Still, I am not confident that a recession will be avoided. First, I am concerned about the housing market. It seems highly overvalued and it is almost inevitable that a major correction is a matter of time. Secondly, the American consumer has done its best lately, but the financial buffers built up during the corona period have been used for this. They are more or less exhausted. And third, US public finances continue to deteriorate at a remarkable pace. I've pointed that out before. The federal government deficit has risen from about 4% of GDP to 8,5% in a short space of time. That certainly has not been a targeted impulse, but such a deterioration in the government balance will in any case allow a lot of money to flow into the economy and it cannot help but stimulate overall spending. A continuing deterioration of government finances is highly undesirable and unlikely. So this impulse will disappear.

For Europe, I am gloomier. So far it's actually going well. The economy is more or less stagnant. The problem, however, is that it remains unclear where the growth recovery should come from. Recovery can come from three sides. First, it may be because central banks tend to aggressively lower interest rates in a recession. Because of the high inflation, that will not happen now. Second, governments can pull an economy out of recession by widening government deficits. That is also unlikely now. Rather, cuts will have to be made in many European countries. And third, recovery may come from export growth. That's not so obvious, given the problems in China, shrinking global trade and the fact that currencies of some of the countries we compete with, such as the Japanese yen and Chinese yuan, have weakened recently.

No, for now I'm still holding my breath as far as the global business cycle is concerned and especially as regards the European business cycle.

Poverty: some nuance
The elections are approaching and the CPB has recently predicted that poverty will increase next year if the government does not take measures. It is not surprising that there is a lot to do about it. Poverty in a rich country is, of course, terrible. I certainly don't want to trivialize it, but I think some nuance is in order. Poverty is a very sensitive subject. What strikes me is the use of words in different institutions. The CPB speaks straightforwardly about 'poverty' and 'people in poverty'. Statistics Netherlands opts for a less loaded 'up to the low-income threshold' (although I would perhaps replace the word 'up to' with 'below') and 'risk of poverty'. In addition, the standards differ. Statistics Netherlands actually looks at a kind of fixed-value limit, while CPB uses the benchmark of the Central and Cultural Planning Bureau: 'not much, but adequate'. This measure also looks at what can be regarded as basic social needs.

The income threshold for poverty used by the CPB will increase by 2021% between 2024 and 22,3. That's more than inflation. Benefits are linked to inflation and they have therefore been increased less than the income limit of the CPB. With benefits often being the main source of income for low-income families, it is not surprising that calculated poverty is on the rise. It does not necessarily mean that these people have (even) less to spend in real terms. Poverty will increase next year as temporary support measures expire. But even if the government does not take any new support measures, poverty in 2024 will be lower than in 2021. Fortunately, the trend over the longer term is also declining, as the following two pictures show. For this I used CBS figures and therefore also the CBS definition of poverty, ie an income below their definition of 'low income'.

The pictures also show that poverty is cyclical. Poverty increases in times of weak growth and especially during recessions. In the debate about the desirability of economic growth (the 'de-growth' debate) this seems to me to be an interesting fact, but this aside. According to CPB figures, poverty will have fallen in 2022 and 2023. This is undoubtedly related to various supporting measures. Statistics Netherlands figures are not yet available for those years. It is also clear that low-income households have been hit hard by inflation because energy and food prices have risen disproportionately and these households spend a relatively large part of their income on them.

At the end of June, the CPB published a document entitled 'Calculation of policy options for reducing poverty'. You should think of increasing allowances, minimum wage, child-related budget and, for example, child benefit. The figures provide policymakers with clarity about the effects of various measures. Fine of course. It should be noted, however, that this is about symptom control. Having paid work is clearly the best remedy against poverty, although this is unfortunately no guarantee. Those who want to combat poverty more fundamentally should therefore focus on promoting labor participation. The level of education is also a very determinant of poverty. Effective poverty reduction in the longer term is therefore not possible without reducing school dropout rates.

What also strikes me, when I dig through the figures on poverty, is that poverty is much higher among people with a non-Western migration background than among others. The share of people with a non-Western migration background living in poverty is also growing steadily. I cannot judge to what extent this can be explained by the increasing proportion of the population of people with a non-Western migration background. People with a non-Western migration background have on average a considerably lower level of education than others and their labor participation is lower.

The following picture shows that the number of native Dutch people who have been confronted with an income below the 'low-income threshold' for at least one year was considerably lower in 2020 than in 2011. That seems encouraging to me.

In absolute numbers, more people with a non-Western migration background live in long-term poverty than native Dutch people, although there are many more native Dutch people. The absolute number of people with a non-Western migration background on social assistance also largely exceeds the number of native Dutch people on social assistance benefits, a development that mainly started after 2014.

The level of education and labor participation appear to be crucial factors here. I would therefore conclude that effective policy to combat poverty in the longer term should mainly focus on the level of education and the labor market participation of people with a non-Western migration background.

Hans de Jong

Han de Jong is a former chief economist at ABN Amro and now a resident economist at BNR Nieuwsradio, among others. His comments can also be found on Crystalcleareconomics.nl

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