The Sequester Begins to Get Serious

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Monday, July 8, 2013

This week, 650,000 civilian employees of the Department of Defense (DoD) begin an 11-week, one-day-a-week furlough program. Until now, only non-defense federal agencies had begun furloughs of civilian employees, with approximately 170,000 furloughed workers.

With the DoD furloughs, the impact of the Fiscal Year 2013 sequester under the Budget Control Act of 2011 begins to get serious.

Much has been written lately about the lack of “chaos” caused by the sequester. As we have warned time and again for the past year, the sequester’s effects will not resemble the immediate impact of a government closedown caused by failure to pass annual appropriations bills. Indeed, it is the “creeping” impact of a sequester on the nation’s economy, in our view, that has contributed to slow job creation and the prolonged unemployment that characterizes this “recovery” from the Great Recession.

Last week’s employment numbers, when parsed closely, reveal three important facts. First, that small businesses apparently have hired part-time employees in large numbers or have cut full-time employees to part-time. Second, that long-term unemployment remains a stubborn problem. And third, that the public sector continues to be a drag on employment growth.

Speculation about why small businesses have acted the way they have revolves around certain provisions of the Affordable Care Act, or lack of confidence in the outlook for the economy, or the kinds of changes that tax reform might take. In any event, small business has not been the engine of economic growth that many expected.

Long-term unemployment, especially among older workers laid off during the recession, may pose even more difficult challenges than relative lethargy in small business. For middle-class workers laid off in their 40’s and 50’s, finding a job that pays the same as they received before is a particular concern.

Employment increased by 195,000 jobs in June, enough to keep the unemployment rate from rising. Every category showed either job growth or no change except for one: federal employment, which recorded a loss of 5,000 jobs in June, for a cumulative drop of 65,000 over the last year. And these numbers do not capture the economic effects of large scale employee furloughs. At this point, the sequester is arguably keeping the unemployment rate from falling.

When Federal Reserve Board Chairman Ben Bernanke spooked markets by hinting that a time might arrive when the Fed no longer bought as many bonds and mortgage-backed securities, he said that any final decision would be “data-driven.” He has also stressed that fiscal policy has contributed greatly to the sluggish recover. International Monetary Fund Director Christine Lagarde pointed to the sequester as an economic drag in her media appearances this past weekend.

Warren Buffet once noted that one of the easiest ways to go bankrupt was to try to predict interest rates. That sage advice remains unheeded, as markets remain volatile over possible relaxing of QE3.

One could make the case that the data that the Fed examines will show continued slow economic and job growth, because of the impact of the sequester. And, one could make the case that the Fed won’t do much until Congress decides whether a sequester for Fiscal Year 2014 occurs.

As Congress lumbers toward the September 30 deadline for FY14 appropriations, and a late-October or early-November debt ceiling confrontation, one hopes that the impact on workers “back home” brings Congress to a rational compromise that at least does no more harm.