Why are we having an infant formula shortage?

By design, the US has a massive dairy surplus every year.  Yet we saw in late 2021 a shortage of cream cheese and now we see parents at wits end searching for infant formula.  How can this happen in a country awash in dairy products?  

From the research I have done so far, there seem to be three main drivers:

1) Corporate failure: Abbott Nutrition had to recall three different types of formula manufactured in its Sturgis MI factory in February.  Four babies were hospitalized after consuming formula made in that plant; two of them died.  The plant remains closed until it resolves all the issues raised by recent FDA inspections.  So far a whistleblower at the plant has been fired (who gave the FDA a heads up about food safety issues last October), but I am not aware of any other dismissals.  

2) Market concentration: Two firms, Abbott and Mead Johnson, account for 80% of the baby formula market in the US.  So losing Abbott's throughput for three months is going to be noticed.  

3) Government failure: Baby formula is subject to a 17.5% tariff.  This helps explain why almost all baby formula sold in the US is produced in the US. 

Add panic buying to the situation and, voila, empty shelves and very concerned parents.  Abbott claims it can resume production in two weeks, once they get the go-ahead from the FTC.  It will take another 6 to 8 weeks for new product to get to retail.  In the meanwhile, Abbott and other manufacturers are doing their best to expand capacity.  

Price-cost margins have been growing

A new study by Harvard Business School economist Alexander MacKay shows that profit margins rose by 25 percent between 2006 and 2019.  They find profits are rising because of cost reductions, not rising prices.   

Textbook economic models predict that firms should lower their prices when costs go down.  By doing so they can increase profits by selling the cheaper goods to more price sensitive customers.  But prices would stay the same, or even increase, if customers become less price-sensitive.  MacKay's study shows consumers have become more brand-loyal and less likely to use coupons.  

This could have implications for the high inflation rates we see today.  We know that costs are rising because of supply chain issues and labor shortages.  If consumers continue to become less resistant to price increases, then we could expect firms to respond accordingly.  

Was it smart for states to cut UI benefits?

Last year about half of the states eliminated the supplemental unemployment benefit program that was launched in reaction to the pandemic.  The logic in these states, most of which had Republican governors or legislatures, was that the extra UI benefits discouraged job search.  

New research by a team of economists, including a Harvard Business School professor, indicates that only 20 percent of the unemployed workers were employed three months later.  More alarmingly, the cuts in UI benefits led to reduced spending in these states.  The math is pretty simple.  There were 1.1m newly employed workers who collectively made $900m in the states that cut benefits.  At the same time there were 3m unemployed workers who did not get to collect $7.6b in benefits.  The overall result is less spending in those states, which in turn no doubt led to reduced employment.  

So much for stakeholder capitalism?

It is one thing for CEOs to give speeches saying that employees are critical stakeholders in XYZ, Inc.  But what do large corporations do when the company gets sold?  WSJ reports that three law professors examined 116 takeovers worth $1b+ since April 2020 and examined how the proceeds of the sales were distributed.  

As you might imagine, shareholders and executives made out fine across the board.

Guess how many provided job guarantees after the sale.  Guess how many guaranteed severance payments to those laid off.  

The answer in each case: zero.  

Which corporations are really socially responsible?

Yale b-school prof and former dean Jeff Sonnenfeld has composed a spreadsheet listing the American companies that are still doing business in Russia.  That got me wondering how many of those companies signed the Business Roundtable's manifesto on the Purpose of the Corporation, a document in which 181 CEOs pledged that they would lead their companies for the benefit of all stakeholders.  These companies showed up on both lists:

• AmerisourceBergen
• Caterpillar
• Citi
• Coca-Cola
• Deere
• Honeywell
• Marriott
• McDonalds
• Pepsico
• Starbucks
• Yum! Brands

I expect they will start getting pressure from their US customers soon if they do not pull out of Russia.  Choices have consequences.  

How long should we expect high inflation?

There was bad news on the inflation front this week, with the CPI rising 6% over a year ago.  We have not seen 6% inflation in 30 years.  This is a worrisome development for those on fixed incomes, as well as for those whose income growth fails to keep pace with inflation.  

The consensus among economists is that the current inflation is a classic case of too much money chasing too few goods.  Compounding the problem is the covid-induced shift in demand from services to goods.  

Economic history suggests one of two alternative scenarios will play out.  One possibility is that the inflation will prove to be temporary, just like it was in the aftermath of World War II.  In that case there was pent-up demand for everything (many goods were rationed during the war) along with the need to shift the economy away from tanks and aircraft carriers toward housing and education.  Option B: a replay of the 1960s and 1970s, when a vicious circle developed with rising prices feeding into higher wages, which in turn increased costs even more requiring even higher prices.  

Jerome Powell, Janet Yellen and other White House and Fed economists say inflation will be temporary.  Companies will need a few more months to ramp up supply, but once that happens we will be down to 2-3% annual rates.  But not everyone is buying this!

Two clues about the future direction of inflation can be found in the bond market.  First look at the actual yields for five-year and ten-year bonds, which are 3.1% and 2.7%.  Interest rates adjust upward in response to expected inflation, so these rates indicate that the bond market does not expect inflation above 3% over the next five years.  

The second clue: the Treasury sells two types of bonds: those with a fixed yield and those where the yield is indexed for inflation.  Adjusting for maturity, a comparison of the yields tells us what financial markets expect.  So take a look at this chart from the St Louis Fed.  At the beginning of the year, the yields implied an expected inflation rate of 2%.  From March through September, the expected inflation rate increased to 2.5%.  Now it is up to 3%.  

My advice: keep an eye on the bond markets in the months ahead.  

Is automated resume screening gumming up the labor market?

We have a genuine puzzle in today's labor market: large numbers of unemployed workers and even larger numbers of vacant positions.   As MIT labor economist David Autor noted in NYT:

Let’s start with the causes of the current labor shortage. Research on this question is unambiguous: We don’t know what’s going on. 

Saturday's WSJ offered one possible culprit, based on a recent Harvard Business School survey: the software designed to match resumes with vacant positions.   

Large companies cannot spend all of their time reviewing each and every job applicant, so they buy software systems and set up parameters to decide who are the lucky few who get interviewed.  Many companies are screening out applicants based on skills that are not needed for the job.  For instance one hospital insisted on computer programming skills for nurses who simply had to perform data entry.  Similar issues arise in setting minimum education and experience requirements.  For instance, how many open jobs really require a college degree?  

If a critical mass of companies have not adjusted their job specs in light of today's labor shortage, then they are guaranteeing themselves problems in filling open positions.  Many companies refuse to look at applicants with gap years in their employment history or who have been incarcerated.  WSJ reports that some companies, including IBM, are starting to re-evaluate their hiring process.  

The pandemic productivity boost

The good news: GDP is now slightly higher than before the pandemic.  The not-so-good news: Employment remains 4.4 percent lower.  The intriguing news: labor productivity (which is simply the ratio of GDP to employment) has increased at the fastest rate in 20 years.  If this productivity spurt can be maintained, this would mean rising living standards for all of us.  

I must admit that I was at first surprised by these data.  Covid forced companies to invest more in cleanliness, which means more inputs to get the same output.  They also had to make massive adjustments in operations, and I expected that to be a mixed bag at best.

This recent NYT article provides some insight into why productivity has increased.  A key factor is that the pandemic accelerated the adaptation of some labor-saving technologies.  We see this in the food service business where more orders are placed online (even among customers sitting inside restaurants).  Also, people shifted more of their shopping from in person to online.  Amazon can deliver any consumer good to your door without having a bunch of people standing around to wait on customers.  

Another driver has been work from home.  It seems that workers and bosses have struck an implicit bargain in many workplaces to split the difference on saved commuting time: working more hours AND having more free time at home.  

How much should graduate students be allowed to borrow?

Last month WSJ did a study of the earnings of those who earned masters degrees at selective universities.  Those who studied business or engineering did extremely well, with annual earnings above student loan debt by a sizable margin.  

Labor market outcomes were less positive in other areas, especially degrees from elite universities in areas such as drama, education, film studies, and publishing.  Half of the graduates of Columbia's program in film studies earned less than $30k after two years in the job market.  Their median debt was $181k.  

Although this is an extreme case, borrowing for graduate programs has been growing and now represents half of student loan debt.  WP columnist Charles Lane pointed out that there are no limits on annual borrowing on Sallie Mae Grad Plus loans, whereas undergraduates cannot borrow more than $12.5k per year and $57.5k total.   It is quite possible that demand for graduate degrees would become more price sensitive if this issue were reexamined.  

Some have called for student loan relief.  For instance Sen. Warren of Massachusetts wants to forgive up to $50k of debt for all borrowers.  However a Brooking Institution study found that the bottom 60% of households would only receive 34% of the relief.  Why should MBAs earning over $100k get this form of relief?

I think there are two areas where borrowers could be better served.  First, one way to provide debt relief that makes economic sense as well is to reduce interest rates.  Currently the US government borrows money at close to a zero interest rate, but this year the Grad Plus interest rate is 6.25%.  Second, universities that participate in Grad Plus should be required to divulge to student borrowers data on labor market outcomes for graduates.  How many students would sign up for film studies at Columbia if they knew the likely prospects for graduates?

A new tool for investigating employer discrimination

Blacks earn less than whites and have higher unemployment rates.  This suggests that a critical mass of employers could be discriminating against Blacks, but how do you prove that?  

One way is to conduct research studies where employers are sent resumes of persons who are identical except for their names.  Studies have shown that there are some names where 90 percent or more of those with that name identify as Black (Darnell or Precious) or white (Brad or Claire).  If an employer tends to call back applicants at a vastly different rate based on the race-identification of their name, that would signal discrimination by race.  The same approach can be used for gender discrimination as well.  

A team of economists at Cal-Berkeley and Chicago used a brigade of undergraduate volunteers to apply to 108 of the largest employers in the US.  The odds of a callback were two percentage points lower for resumes with Black-sounding names as opposed to those with white-sounding names.  Overall the callback rate was around 25 percent, so this means that if 1000 Blacks applied they would get 240 callbacks and if 1000 whites applied they would get 240 callbacks.  This difference by itself is not likely to explain the gaps in wages and employment that we observe in the labor market, but it certainly can be a contributing factor.  

This finding was not uniform across all of the companies in the study; in fact it was concentrated among 23 of them.  The authors question whether these companies have intended to discriminate against Blacks; they may very well lack internal controls to ensure equal treatment.  

Did cutting unemployment benefits lead to more employment?

Under the covid relief bill passed last March, unemployment benefits were increased by $300 per week.  Although this improves the living standard for the unemployed, it does create an incentive to delay returning to work, especially for those who earn more from unemployment benefits than they would from working.  

Employers in many sectors of the economy faced labor shortages, so the supplemental benefits became a political hot potato.  In June 22 states dropped the $300 supplement. 

A new study by economists at four universities were able to get detailed data on 19 of those 22 states.  They found that 1.1m people had their benefits reduced and that by early August only 13% of them had found jobs.  Other recent studies cited in this NYT piece find similar conclusions.  

The $300 supplement ends on September 6.  Based on these studies, we should not expect a big drop in the number of vacant positions or a big increase in employment.