New labor share data came out last week. Labor share was actually modified back many decades. So, I have been updating the effective demand charts. Let's start with labor share itself.
Labor share used to rise toward the end of a business cycle as seen in 2000. Labor share is now falling through the last 2 business cycles. Labor share fell after the crisis to new low levels and has been bounced around at a fairly constant low level since 2011. In the first two quarters of 2014, labor share has risen again.
What about the UT index which measures available slack in the economy up to the effective demand limit.
UT index > 0 > effective labor share - (capacity utilization * (1 - unemployment rate)
The UT index which wants to stay above 0% bounced on 0% in the 4thQ of 2013 and has risen since. I project that within the next 4 quarters, the UT index will start rising as it did in previous business cycles.
But the implication is that... if labor share stays constant, unemployment and capacity utilization will be capped. That is to say... unemployment rate will only mildly decline, and capacity utilization will probably stay constant or even decline. That has been a normal pattern in past business cycles.
The pattern in the past is that productivity stalls against the effective demand limit (where real GDP equals Effective demand.) It is happening again. In the last 2 quarters, we see productivity has fallen, and still within the effective demand limit. The last 2 quarters of 2013 showed productivity starting to rise. But the first two quarters of 2014 show productivity following its previous trend.
The economy looks to be bunching up against the effective demand limit.
Path of Real GDP to Next Recession
The green line shows Real GDP rising since the crisis in terms of labor and capital utilization. Even though real GDP grew more than 3% in the 2ndQ of 2014, it is still below the polynomial trend line. Yet, real GDP is growing close to the trend line. The red line of effective demand is bumping up against real GDP. The pattern in the past would imply that real GDP will start rising vertically as the utilization of labor and capital (TFUR) stops rising on the x-axis. I project this process to start within 3 quarters.
In effective demand, the output gap is determined by the difference between capacity utilization and effective labor share. The output gap is showing a trend consistent with the top side of the business cycle.
Limit on Employment and Capacity Utilization
The downsloping lines in this graph represent profit maximization limits of effective demand. The scatter plot of employment with capacity utilization shows increasing profits moving Northeast, then implies that profits will continue increasing as the plot starts going Northwest along the limit lines. I project that if employment rises, we will see a corresponding decline in capacity utilization, as long as effective labor share stays around 74.5%.
With the new revisions of labor share, the economy reached the effective demand limit near the end of 2013. The projection going forward is that there is little available slack in terms of labor and capital.