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Monday, January 21, 2008

Italian Employment, Earnings and Consumption

Italy is currently entering into what offers all the indications of being a major political gridlock. At the same time the Italian economy is slowing visibly, and the Bank of Italy only last week lowered their growth forecast for the Italian economy to a mere 1%. Given what is happening now in global stock markets and Italy's obvious political instability even this may be an optimistic estimate (see my 2008 forecast here). Italy's problem is, however, neither so immediate nor so dramatic, since if we look at the relevant chart what we can see is that Italy is suffering from congenital slow growth in the much longer term.

In what follows I intend to step back from the precipice a bit, and take a rather longer term look at one feature of Italy's economic performance, its labour and employment market. In this sense this post is going to form part of a "tripple whammy" I am working on, where I will attempt to carry out an in depth examination of possible connections and interconnections which may exist between population ageing, rapid job creation and weak internal consumption in three key G7 economies: Italy, Germany (see here) and Japan.

Rising-Employment Falling-Consumption?

Well lets start by looking at the story so far, at least as far as Italy goes. Fortunately we do have a number of key stylised facts at our disposal. First off, unemployment has been steadily - I could say relentlessly - dropping in Italy over the last two or three years:

and new jobs have been created, lots of them:

Yet at the same time domestic demand has not been revived to anything like the extent that might have been expected. Retail sales have been in decline for most of the last year as you can see from this retail-sales purchasing-managers-index for Italy (remember that on the PMI reading, anything below 50 represents a contraction).

Meanwhile private household consumption, despite some early strengthening, could hardly be said to have been booming. We did see a couple of (in Italian terms) comparatively strong quarters in the first half of 2007, but then, surprisingly - as can be seen in the chart below - the rate of increase began to weaken in Q3, while, curiuosly, in the position in the Italian labour market remained, more or less, stable.

So how can we account for this apparent paradox of a steadily tightening labour market and deteriorating internal consumer demand? One explanation for this could, of course, be that labour market performance is a lagged indicator (that is that it only registers economic deterioration after other indicators have been pointing to red for some time, and this is surely true), but could there not be something more going on here? Especially since this kind of pattern is being repeated in Germany and Japan, and these two countries have, along with Italy, the highest global median age, and as a result the highest proportions of potential workers in the older age groups. There is something very different about the labour market tightening we are seeing in Italy, Japan and Germany, for example, and the kind of inflation generating labour market tightening which we are observing in Eastern Europe. So why this difference?

Italy's Age Structure

But first off let's take a look at one of the younger age groups for a minute, the 15 to 24 one. As is well known this group is now in historic decline as a proportion of the total Italian population. The decline has been very rapid, with a drop of around one third (from 15% to 10% of the population) since 1990.

What this means, logically enough, is that there are steadily less and less people in this age group to fill places in the labour market. To this numerical decline we need to add theongoing secular decline in economic activity rates among this group, as more and more of Italy's - now scarce resource - young people delay entry and seek to improve their education, their human capital rating and hence their future earning capacity.

Thus the proportion of this group which is economically active has been declining steadily, as have the absolute numbers of those who are active, and the numbers of those who are actually employed. It is perhaps worth noting that the absolute size of this age group has been virtually stationary over the last 3 or 4 years (a statistical effect), but it is now set to fall steadily.

So if new employees will be hard to come by in this age group as we move forward, where can employment growth come from? Well basically there are two evident potential sources of labour, immigration and older workers. It is hard to envisage any large increase in employment in the 25 to 34 or the 35 to 54 age groups since - as can be seen from the chart below - activity rates among these groups are already fairly high, and even the slight fall-off which can be seen to have taken place recently in the 25 to 34 age group seems to be the result of a decline in female activity rates, and this is almost to be hoped for if Italy is to do one thing which is very important for its long term future, and that is have more children. Squeezing this particular lemon too hard at this point in time is only likely to obtain short term benefit in return for substantial negative long term outcomes.

Turning now to the principle sources of potential long run labour supply, in the first place it is obvious enough that there has been a significant surge in the size of the immigrant workforce in recent years (see chart below, and my other post for more details).

The other main potential source of additional labour in an ageing economy is the over 55 age group (and as we move forward of course increasingly it will become the over 65 one). Now many international agencies (the World Bank, the OECD, the IMF, the EU Commission etc) are pinning their hopes on the idea that the effects of population ageing may be to some extent offset by increasing the participation rates of these older workers, presenting impressive looking projections all the way out to 2050 to back their view that this is a workable solution. Yet since we have, in the here and now, a number of examples of societies who are trying quite hard to follow recommendations here, I do think it is important to examine in detail what is actually happening in these societies and try to really start to estimate the longer term macroeconomic consequences of this shift.

Now the important thing to bear in mind when we speak of older workers is that the important decision they need to take is about whether or not to continue working, and what is very clear in the Italian context is that workers in the 55 to 64 age group are increasingly taking the decision to stay at work, in some form or another.

Not only is the activity rate - which has, it must be said, been ridiculously low for this group, especially given Italy's very high life expectancy level - on the way up, the unemployment rate is on its way down, and the number of those employed is steadily rising.

More Work, Less Pay?

What is also significant about this trend is that it is also associated with a significant growth in part time and temporary work. The question really is who is doing this part-time/temporary work? In Japan it has become clear that many people now leave their "lifelong" job at 55, only to continue working in some way shape or form for another 15 years or so (both the Economist and the Financial Times have recently run articles about this trend in Japan - see here - although they fail to explicitly lock-it-in to the ageing population issue, which I think is where it belongs) . The work ethic in Japan is probably quite different from the one in Italy, but the similarities in the way the labour markets are evolving are really quite striking . In the German context it is also clear that the growth in part time and in non-social-security covered employment has been significant. And of course, in Germany, as I explain at considerable length here, the big increase in employment is in comparatively low skill, low wage work, which very often draws the over 55s into employment in much the same way and for much the same reasons as it does in Italy and Japan.

So what IS observable in the case of all 3 of these economies is that they are experiencing at one and the same time skill-shortages in some key areas of economic activity (due to the growing population crunch among the young - Japan for example is notoriously short of nurses) and generating large volume employment in more tenuous and lower skilled categories of work, since such work meets the skill and performance profile of the workforce they really have available. Thus, even as these labour markets tighten we find NO real evidence of significant wage-squeeze push.

From this point in we are left guessing until someone does some really systematic research, but it isn't a bad guess to suggest that the pressure on wages in the more skilled areas is being offset by a downward movement in wages in those less skilled areas where a mixture of lower skilled migrants, retirees and older workers are offering themselves for work in increasing numbers.

One other conjecture about Italy is that migrants are doing jobs in Italy which retired or semi-retired workers are doing in Germany and Japan, and hence we find that the participation rates in the 55 to 64 age group are still pretty low. At the moment I'm not quite sure what the macro economic consequences of this are going to be.

My feeling is that since people reaching 60 can now expect to live quite a long time, and since nowadays there is no great certainty attached to current levels of retirement benefit as we move forward, then older people, who are normally more prudent, will be protecting their current savings - in whatever form they may hold them - as best they can, and supplementing pensions with bits and pieces of work to maintain living standards so as to not run down their capital.

Another point here is that many retirees in Italy have a lot less in the way of accumulated wealth (and imagine the situation in a country like Hungary, which is the next one coming in this group as far as I can see, even though the median age is somewhat younger, but the male life expectancy is also much lower, and the population is already falling) in comparison with Germany and Japan.

This is why the recent deal Prodi struck with the Italian unions about postponing raising the retirement age was such a negative when viewed from where I am sitting.

So what I am suggesting is that the very weak internal consumption we are seeing in these three countries (and I would drop-in that Hungary is "coupling" here perfectly with the others, in terms of the model I am working on) is not ONLY associated with a higher propensity to save associated with older people, but also to do with the earnings profile associated with the new kinds of low level work older people are doing. In other words you can't just take the large number of new jobs being created and translate this into more consumption (as I think most of the conventional analysts are doing) since more things are happening here.

North-South Regional Stresses and Imbalances

But in any event the data we have is fascinating. The regional disequilibrium in Italy seem to be once more becoming really important (just like East-West one in Germany, and Tokyo vs the rest in Japan). While the national participation rate for the 55 to 64 age group went up from 28.9% in Q1 2004 to 33% in Q3 2007, in the mezzogiorno it has gone up from 31.8 to 35.3 over the samer period, so the South is keeping pace here, but if we look at the 65 plus group, while participation has gone from 3.4% to 4% nationally over the same period, in the mezzogiorno it has gone DOWN from 2.4 to 2.1%. The 15 to 64 participation rate also dropped from 54.1 to 52.5 over the period in the mezzogiorno while in the North it went up from 67.8 to 69.2 %. And this situation is reflected in the relative job creation performance between the North and the South.

Basically, given the very strong fiscal pressure which is about to come in Italy, and the danger IMHO of a sovereign default at some point if nothing is done to correct this very weak growth trajectory, Italy can be almost literally torn apart by this disequilibrium, especially given that it is reinforced by the unequal distribution of migrants. We have an ongoing polarisation of wealth, employment and people, and we really aren't giving sufficient consideration to the longer term political implications of the underlying economo-demographic process.

New Forms of Employment: Temporary and Part-Time Work

I have also found a limited breakdown for part time work by age. The two categories which the Italian statistics office use are "15 to 34" and "35 and over". Now strange as it may seem the number of part-time jobs for the 15 to 34 age group actually went DOWN between Q1 2004 and Q3 2007 - from 1.107 millions to 1.102 million - while among the over 35s it went up from 1.74 to 2.121 million. So Italy's new part-time workers are by-and-large not young, and it is a good bet that the majority of these new workers come from the over 55 group, and that it this kind of work which is responsible for the increase in the participation rates at the higher ages.

Of course, when we come to look at TEMPORARY work the pattern is rather different, there are an increasing number of young people (and since the number of such people is steadily declining, a rising proportion) working on temporary contracts. The number has gone up from 1.035 million in Q1 2004 to 1.368 million in Q3 2007. Over 35s (which we can pretty much imagine as over 55s, since the 35 to 55 age group is normally pretty robust in employment participation terms) goes up from 679,000 to 993,000.

By Way of a Conclusion

Basically the macro economics of all this are hard to assess. Italy's working age population - ex migration - has touched the ceiling, and without immigration it will go down and down. So everything depends on raising the productivity of those employed. But raising productivity today is pretty much synonymous with raising the human capital component and if in volume terms the numbers of older but less qualified people working - and working in more and more fragile and less and less well-paid occupations - swamps the number of new highly educated workers in highly productive jobs (we are talking about aggregates here) then the new value created by the society in question won't compensate for the contraction in the workforce. This is particularly true when it comes to raising participation rates in that oft quoted potential labour supply, female workers over 55. Many of the women in question are excellent wives and mothers, but given their often very low level of formal education, and given their lack of real experience of work out of the home, the economic worth in value added terms of their formal labour market participation may be much lower than many expect, and certainly this is where the evidence to date is leading us.

I also feel that the Italian experience is very similar and comparable with what we have been seeing in Japan and Germany, so it seems to me that there is now strong prima facie evidence that we need a big and really systematic research programme into the details of all of this, and rather less of that "gung-ho", we haven't got a problem approach, which has prevailed up to now, and which - at the end of the day - is based on the idea that raising participation rates will do the trick. As we are seeing, and unfortunately, it may well not do. It will do something, but that something may well not be enough.


Anonymous said...

I guess I understand your pov better now.
Some instant thoughts.

Maybe some exhibitionism is in place here (as an example to ask a question about the statistics).

I have been a partner in an international audit and tax firm. I sold my shares and I quit working on 31/12/2007 at the age of 51 (now you know why i can read and comment more nowadays).
I've the intention to do some work still, but only when I want and what I want to do. And have an income , cause it never feels good to consume your wealth as you mentioned.
My labor income will drop considerably and I wonder in which category I will fall.
If the statistics of low level work is based on labor income then I will be classified in the low level work force. If it's based on qualifications not so, but my individual productivity will be very low (something that won't affect the average productivity unless it becomes widespread).

Furthermore two issues jump to mind.
- low educated workers earn less and will need to work longer for financial reasons (you pointed that out too)
- highly educated workers have usually other points of interest (cultural for example) and can rely on more wealth (which they need to manage too). They're more able to manage their lifes after work and give another meaning to it.
From this I conclude that it seems logical that low educated/paid workers will form the workforce in the age group of 55-65.


Edward Hugh said...

Hi again Geert,

and thanks for the background info.

All I can say is that I think it is a very good idea to keep working. I'm 59, and you could say I am more or less retired now, but I continue working on things that get me out of the house and away from the computer - as well as keeping the wolf from the door - in a pretty balanced way. But that, I suppose explains why I have so much time to write what you have the time to read. I enjoy doing all this blogging a lot, even though a lot of people would consider it to be work and some sort of chore. I consider it a sort of hobby, and the search for some kind of answer to all those questions which are floating around is frankly truly fascinating. Raiders of the Lost Ark has got nothing on what Claus and I are up to.

And since the work I do involves a lot of face to face contact, then things work out OK. So I think as we age money isn't the only consideration, and the need to keep active plays a part, which I also think is something that must be showing up in those employment/earnings numbers, especially in a place like Japan, where I guess many men wouldn't know what to do if they weren't working.

But I think balance is important, and I think if you've come out of the formal labour market at the age you have, then it is very important to find some activities which give you structure, and, as it were, maintain your skill level.

I work closely, as must be obvious, with Claus Vistesen, and this is a combination which works well, since he is pretty young (24, and only in the 1st year of a masters) while I am relatively old. This lets me see quite clearly what each part has to offer.

So I want to be clear, I am not at all saying that we older people have nothing to offer - we have plenty - but what I am saying is that if we don't dig out very special and specific niches areas for ourselves, then the economic worth of what we can offer is going to be low. And even more, we are no real replacement for all those energetic and youthful people who simply haven't been born.

I think it is important to keep learning, and I am sure we can do. Look at me with excel charts. Would you believe me if I said that before July last year I had never done even one. Then Claus started with them - you see this is what the young have, they are early adopters, and probably more open to innovation - and I said, hey, this is just what I need (since I am tired of trying to do so much communication using words, I like colours). So I got Claus to show me over the internet (in a brief five minute online class, they really aren't difficult to produce at all) and off I went, and now you see the outcome.

What really fascinates me is all the excel based economic data which is available out there for downloading. In this sense the current generation of economists is really priviledged, since I don't imagine anyone had so much before, and certainly not in such comparatively real time.

OK, I am rambling, which is another priviledge of the old :).

Can I just recommend one thing to you, and that is this report on cognitive ageing from the National Institute on Ageing in the US. There is nothing very surprising here, but it is interesting to see the findings, and that what you imagined was true does seem to be so.

Basically, if you want to keep it - your brain I mean - use it. And what we eat is important, it needs to be balanced and varied, and I am not only talking about food, since balance and variety are equally important in mental activity and day to day social life. And, oh yes, avoid stress and stress-distributing people like the plague.

Anonymous said...

hi Edward

Thanks for sharing your experience.

I took a month off in January, but I do have a lot of prospects in February. The skill will be to choose something that gives me some routine (structure as you say) and at the same time enough freedom, and to avoid getting sucked in one hunderd percent again.

all the best

PS the spreadsheet example is not a good one, but maybe another time on this one

Edward Hugh said...

"Thanks for sharing your experience."

No problem, and thanks to you. I think that is what blogs are about really, communication with a human face. There are people behind the arguments, and I don't think it detracts anything from the professionalism of the analysis being offered to own up to the fact that you are a person with feelings, and a real life.

If you take the trouble to go over to the Alpha Sources blog and have a look at what Claus wrote about the movements in the stock market yesterday, you will see another side of this, since he freely admits that his positions in his monopoly money trading programme all crashed while he was away at an econometrics theory class. And in the next post you will find some of the most clinical and professional macro analysis of the eurozone economy currently available online IMHO.

"The skill will be to choose something that gives me some routine (structure as you say) and at the same time enough freedom, and to avoid getting sucked in one hunderd percent again."

Exactly. The decision at this point isn't all about money, it is about quality of life, and about how long you get to live, working within the limitations of whatever body nature happens to have given you.

"PS the spreadsheet example is not a good one"

Yep well I'm not sure what you are getting at, but I'm only talking about the chart-making capacity here. That's what I am saying easy, although conceptually I don't see any real difficulty with spreadsheets, playing around with dots and commas and converting from TSV to excel format adds to the interest of course, but once you get online and start playing around with blogs these things tend to become a minor irritant rather than a huge hurdle.

I had, of course, been familiar with the spreadsheets themselves for years - I even earn't a bit of money as a postgrad in the early 1980s teaching people how to use the then Multiplan. But before I could add colour to the numbers they used to bore me to tears. Now I have realised that running up a chart makes it much easier to see at a glance what is actually happening, and I do these things as much for my own benefit as to help the reader, although I think both are important.

Basically the skills developed playing around with MP3 songs suddenly come to have many more uses. Claus is now starting to do the same with a major stats programme, so expect to see lots and lots of correlation tests showing up at some point. What I am trying to say is that mechanically these things are easy to use, and avoid the need for lots and lots of messing around, so they save you a hell of a lot of time, but, of course, to get the advantage you need to know what you are doing conceptually, and obviously you need to know which questions you want to ask.

OK, that's it. Back to work. And good luck with the job hunt. I hope though, that whatever you do, you still have the time to keep reading. This is now all about to become fascinating.

Anonymous said...

I sure will keep reading your and Claus' blog . I've been following both of them for the last four to five months, or more I guess.

But first I need to do some traveling and settle some leftovers from the past.
Read you in a couple of weeks!