Economic Focus: Q&A with our Analytics Manager, Nick Allison

I thought I would switch up the format in this quarter’s article to cover some of the issues I’ve recently been asked about by co-workers and our customers.  I don’t have the space to address all of them but I wanted to highlight the questions I’ve been asked most often. 

I have seen articles about Deutsche Bank predicting a recession for 2023.  Should we expect a recession then?  

Yes, Deutsche Bank was the first major bank to publicly call for a recession as early next year.  To be clear, the definition of a recession is two consecutive quarters of GDP decline.  The cornerstone of Deutsch Bank’s prediction is the expected behavior of the Federal Reserve.  The Fed has been aggressively tightening monetary policy in order to deal with inflation, which is at the highest level in 40+ years.  

With current rates at 4%, Deutsche Bank views rates in the 5-6% range would be sufficient to drive the U.S. economy into recession.  Between my professional opinion and the opinion of the firm we use for economic forecasting, the basis for Deutsche Bank’s prediction is correct.  That is — rates of 5.5% indeed would likely push the U.S. into recession.

However, we disagree with the core assumption that the Fed will indeed raise rates to these levels.  History has shown that the Fed does not always do what they say; the Fed tends to be more conservative, and our economic partner does not believe the Fed will want to be the cause of a recession.  A lot hinges on the core assumption that the Fed will do what it says.  

There are other potential hiccups besides the Federal Reserve, however.  A major increase in the conflict in Ukraine or another major global supply chain snafu (e.g., another COVID lockdown in China) could tip the economy as well.  In the event of a recession, organizations will need to look at the same playbook used by successful companies during the Housing Crash.

We are having a lot of difficulties recruiting and keeping employees.  How can we keep employees?

This may not be what many employers want to hear, but a big part of this is wages.  And not the absolute wage, but wages compared to inflation.  According to the U.S. Bureau of Labor Statistics, in April of 2021, the real average hourly earnings (nonfarm) was $11.32.  A year later, this is now $11.03, a decrease of 2.6%.  

Raw wages have increased during the last year but at a rate lower than inflation.  Over the same time period, the Consumer Price Index (CPI) rose from 266.7 to 288.7, an increase of 8.2%.  The recent April CPI report looked decent showing an increase of 0.3% — but this will get worse as recent energy price hikes fit the numbers in May and June.  

Typically, businesses give an annual cost of living increase of about 2-4%.  However, in order to keep up with inflation, employers should be targeting a minimum of 6-8%, and really 9% would be needed for employees to break even.  

Outside of wages, there are options like bonuses and profit sharing that can be used to close the inflationary gap.  Inflation will accelerate through the end of 1H 2022 and then subside in Q3-4.  3% should cut it again in 2023.  

During the Great Resignation (where 40 million people left their jobs in 2021 — most in retail, leisure and hospitality), employees didn’t just quit; they moved to jobs with better pay or benefits or more responsibility.  Companies will need to look at compensation relative to inflation as well as investments in training and on-the-job education so the motivated have opportunities to be promoted within.

What is going on with imports of products related to cabinets or plywood?

In 2021, total imports of plywood (softwood and hardwood) increased 24.8% year-over-year (YoY) in volume.  Hardwood plywood jumped 36.5%, and softwood jumped 9.6%.  The value of “ready-to-assemble kitchen cabinets” (RTAs) jumped nearly 22% (import data for plywood includes volume and price; RTA import data only includes value, not units).  

Through February 2022, total plywood imports are up 43.8% in volume — hardwood up 59.2%, softwood up 15.6%.  Clearly, hardwood plywood is soaring as of late, with year-to-date (YTD) volumes exceeding 740 thousand cubic meters compared to 465 thousand cubic meters in 2021.  

The value of RTAs imported to the U.S. continues to climb as well, up 23.8% YTD.  Part of this is due to demand and the limited supply of plywood and related products in the U.S.  

Another driver is the Fed, which has strengthened the dollar to such a point that it incentivizes firms to import goods instead of sourcing domestically.  I don’t find it likely that hardwood plywood will sustain growth rates of nearly 60% for much longer, but 20-25% for full-year 2022 is certainly feasible.  RTAs and softwood rates will likely hold close to current levels for most of 1H 2022.

Keep in mind this “import inflation factor” may apply to other products as well, not just goods related to plywood and cabinetry.

Businesses are certainly in an odd situation — in general, demand, prices and profits are solid, but finding and keeping good employees is rather difficult.  Supply chain volatility is decreasing, but still a major challenge.  Raw material costs and availability, trucking and fuel prices present further challenges.  

All this with rampant inflation and a Federal Reserve with their hand on the dials!

Business leaders will need to keep an eye on leading (not lagging) indicators in order to best guide their companies to success after more than two years of extraordinary chaos.