The Ugly Truth About Unemployment

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Investors are starting to get more confident about the outlook for the U.S. economy. Risky assets like stocks, for example, are seeing renewed interest.

But the painful unemployment situation in the country continues to hold center stage. The Republican Party registered big midterm election gains from an electorate frustrated by a lack of progress on jobs, among other things. And the Fed announced more measures to drive down interest rates in an effort to further boost the economy and increase hiring on Wednesday.

When it comes to tackling joblessness, there is plenty of vitriol and hyperbole on both sides of the political spectrum. To some pundits on the left, it's a shame that the Federal Reserve isn't providing more liquidity to prop up the economy. Tea Party activists on the right, meanwhile, rant about how government meddling is stopping businesses from hiring.

Need for a Comprehensive Approach

Investors, though, should take a more balanced approach. Chatter about a jobless recovery may be loud – understandably, given the soaring rates of unemployment – but it has been that way at the start of both recoveries over the last two decades. Signs of job creation are appearing nonetheless.

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Yet comparisons to a bygone golden era for American labor characterized by abundant and well paying jobs is both fruitless and counterproductive. Technological automation and the rapid rise of low wage labor pools in an increasingly global economy are putting increasing pressure on the workforce.

And while a laissez-faire spirit seems to be ruling the country, an engaged and constructive industrial policy will be needed to maintain the high standard of living Americans are accustomed to.

The German economy, where unemployment is now at 18-year lows thanks to booming emerging market demand and carefully crafted policy that has allowed a high end manufacturing sector to thrive, provides many useful lessons. Not least, the German case suggests that the overall economy benefits when labor has a strong voice in corporate planning.

Signs of Growth in the U.S.

Even at home, though, there are signs of a turn. Markets are focused on October's jobs report out on Friday, where consensus numbers among economists are predicting gains of 60,000 private sector jobs. But investors could be in for a pleasant surprise.

A closely watched survey of employment by ADP (ADP) released Wednesday showed that the private sector added 43,000 jobs in October -- nearly twice as strong as economists had forecast. (Given variations in sampling and methodology, an apples to apples comparison between the absolute numbers in the ADP and government reports isn't as important as directional trends.) ADP took a cautious stance for the coming months and warned that sluggish GDP growth in the U.S. could provide a strong headwind for job creation. But as profits boom, businesses are likely to be driven more by their near term confidence than the overall pace of GDP expansion.

And few things inspire confidence like a sustained rally in the stock market. Employment surged in the months prior to April earlier this year, for example, in the wake of a major move up for stocks.

Fears about a European debt crisis over the summer, though, tanked investor confidence. Bearish hedge fund managers predicted that China was on the verge of a bust. Hiring slowed as chatter about the chances of a double dip recession in the U.S. and comparisons to Japan's deflationary malaise grew.

But stock markets have staged an impressive rally over the last few months and business confidence is also mending. Catastrophic scenarios from a chain of sovereign defaults in Europe to a collapse of the Chinese economy are losing their sway as manufacturing around the world rebounds.

An Ugly Truth

Signs of growth in the U.S., meanwhile, debunk fears that high unemployment at home would lead to an inevitable deflationary cycle. But they also present an ugly truth: In an economy marked by sharp and growing household wealth disparity, it is possible to have both high unemployment and strong consumer spending. Aggregate personal consumption and GDP are again near all time highs -- but so is unemployment.

Nor should investors be entirely surprised. Citigoup (C) documented the vast purchasing power acquired by the upper echelons of American society in its now infamous "Plutonomy" report five years ago. The money and the wealth are still there, in the aggregate, but they're in fewer and fewer hands. This leads to the painful reality of economic growth that leaves millions behind.

Calls for government to get out of the way are currently on the rise amid soaring voter frustration at unemployment. Despite a positive turn in the short term, though, the American workforce is only going to face more stress as the forces of technology, globalization and wealth disparity grow. It's likely that regardless of the populist rhetoric, any solution to the employment problem will involve fundamental changes in both public policy and corporate practices.