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Hutchins Roundup: Labor force losses, climate change, and more

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What’s the latest thinking in fiscal and monetary policy? The Hutchins Roundup keeps you informed of the latest research, charts, and speeches. Want to receive the Hutchins Roundup as an email? Sign up here to get it in your inbox every Thursday.

COVID-19 infection has persistent negative effects on labor supply

Using data from the Current Population Survey, Gopi Shah Goda of Stanford and Evan Soltas of MIT find that the COVID-19 pandemic has had persistent effects on both the size of the labor force and workers’ earnings. They estimate that half a million people were missing from the labor force in June 2022 as a result of contracting COVID-19 at some point during the pandemic. COVID-19 infection also increases the likelihood that a worker will retire, become disabled, or leave the workforce to care for a family member. On average, workers who are absent for at least a week of work after contracting COVID-19 forgo $9,000 in wages because they are more likely to leave the labor force. The authors find that the loss in labor supply is comparable to an additional year of U.S. population aging, and that the value of lost wages is about half of the value of lost wages from diabetes or cancer in a given year.

Climate change heat stress risk is priced into US equity and bonds

Are equity and bond markets pricing in climate risk? Based on prior research demonstrating that unusually hot days can hurt local economies by lowering labor productivity (in industries such as mining and construction) and increasing energy expenditures (for air conditioning), Viral Acharya of New York University and co-authors simulate municipalities’ and companies’ exposure to heat-related losses by the end of the 21st century and compare them to bond and equity returns from 2006 to 2020. Municipal bond returns were 15 basis points higher in areas where heat stress is projected to destroy 1% of GDP compared to areas without heat stress risk. The authors find similar effects in bonds and stock of corporations, with a one standard deviation increase in heat stress being associated with a 40 basis point increase in yields on sub-investment grade corporate bonds and a 45 basis point increase in returns on S&P 500 companies. These effects began around 2013, at a time when the authors speculate investors became aware of the systemic nature of climate change risks.

Low taxes and interest rates helped fuel corporate profits

Between 2004 and 2022, net income for publicly traded non-financial corporations rose 5.4% per year. A third of that came from falling interest and tax expenses, finds Michael Smolyansky of the Federal Reserve Board. The decline of interest rates and effective corporate tax rates, especially after the 2017 tax cuts, reduced tax and interest expenses as a share of earnings from roughly 45% before the Great Recession to 26% today. Had these expenses remained at a constant share of earnings, the author calculates that the earnings of these companies would have grown at only 3.6% per year. Over this period, firms also enjoyed faster earnings growth than sales growth because inputs were cheaper and labor productivity rose faster than real wages. With rising interest rates threatening leveraged balance sheets, new taxes in the Inflation Reduction Act, and no reason to expect an increase in earnings, Smolyansky argues that profit growth and stock returns for these firms will be in the 3.0%-3.5% range in the long term.

Chart of the week: Income of typical US household fell for second year in a row

Line graph showing real median household income from 1967 to 2021, with recessions indicated as shaded areas.

Chart courtesy of the Census Bureau

Quote of the week:

“It will not surprise you if I say that of course we [the European Central Bank] do not target any kind of exchange rate for the euro. But of course we monitor very carefully and just like all of you, we have noted the depreciation of the euro relative to a basket of currencies but more importantly, relative to the dollar. Just to give you an order of magnitude: it’s since the start of the year 12% relative to the dollar, and 4% in nominal effective terms relative to other currencies in general,” says Christine Lagarde, President of the European Central Bank.

“Of course we notice. We know that it does have an impact on inflation with a lagging time. It has direct and indirect effects as well, and we are very attentive to those, but we do not target an exchange rate. We have not done so and we will not do so.”

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