Recent economic data point to a distinct pandemic-related slowdown in economic activity. Employment in pandemic-sensitive sectors either fell or flatlined in August while retail sales for the same period confirmed a shift to online consumption and a fall in spending at bars and restaurants. Firms need to juxtapose this speed bump in economic growth with expanded efforts to increase vaccinations; the greater the vaccination rate the less a threat the pandemic is to employee health and economic activity.
Due to the rise of COVID-19 cases and the concomitant slowdown in growth, we have lowered our forecast for the third quarter. While we are presently anticipating that people will modify their behavior such that daily case rates drop in the fourth quarter, the pandemic poses a significant risk to this outlook. We anticipate that third quarter growth slowed to below 2.0% compared to our previous forecast of just over 6.0%.1 This puts the growth rate for the first half of the year at 6.4% versus our current forecast of 3.7% for the second half of the year.
The pandemic has introduced a number of frictions into the labor market ranging from new worker preferences, early retirements, and other labor shortages, as well as the ability for workers to do many roles remotely. Correctly forecasting how these various factors play out will be an important consideration for firms as they plan their talent management strategies.
The most recent labor market data show that the economy added fewer jobs than anticipated in August and that the shortfall was directly linked to the Delta variant. In addition to weakness in pandemic-impacted sectors, the number of workers reporting that they lost work or that their employer closed due to the pandemic accounted for the entire 500,000 gap between expected job gains and the reported number of 235,000.2
The broader impact of the pandemic on employment can be seen when looking at data across different states. The states with the largest positive change in unemployment rates from July 2020 to August 2021 are the states with the highest vaccination rates. States with higher vaccination rates are also seeing lower case numbers and less impact from the Delta variant. The outlook for the economy hinges on the anticipated increase in vaccination rates due to approval of lower-dose vaccines for children ages 6 to 12 as well as increasing vaccine mandates from firms and governments.
The ability to vaccinate school-age children is an important aspect of getting the economy back to normal. Fiscal policy and reopening plans were calibrated with the assumption that fall 2021 would see a return to schools and the office. A safe and sustained return to the classroom will be a tailwind to both the labor market and economic growth in the final quarter of the year. It may also help ease some of the labor market shortages firms are experiencing.
Prior to the pandemic, and in the past two recessions, workers over the age of 55 increased their labor force participation while other workers dropped out of the labor force. Longer life expectancy, moderate portfolio returns, and reduced housing prices are some of the key reasons the labor force saw an increase among the over 55 cohort. However, during the pandemic, those over the age of 55 left the labor force in greater numbers than younger workers. Indeed, this is exacerbating another labor market shortage: a shortage of workers without bachelor’s degrees. Older cohorts of workers have lower rates of college education and as they retire, the labor force has a greater percentage increase in workers with bachelor’s degrees each year. This has a demographic knock-on effect for many industries, such as leisure and hospitality, healthcare, construction, and transportation, to name a few.
In previous pandemics, it was often the case that higher real wages were paid to workers in the years after the pandemic.3 Economists have mostly interpreted this data to be the result of a smaller labor force, and yet the same amount of property, plant, and equipment as prior to the pandemic. In other words, the physical productive capacity was not harmed due to the pandemic, but the size of the labor force was. This resulted in a labor shortage that raised real wages. As we continue to exit the current pandemic, wages are rising, especially for those jobs where people must work in person. These developments corroborate data indicating that people are changing their views on work-life balance, and are impacted by pandemic-related health concerns and childcare issues, which are impediments to in-person work while the pandemic is ongoing. When we combine these cyclical factors caused by the pandemic with longer-term structural factors such as the reduction in workers without college degrees, it seems likely that firms will be grappling with labor shortages in lower-paid sectors for several years to come. This will impact not only planning for workforce needs, but also the ways in which companies deploy labor-saving technology.
While the Delta variant is likely to cause a speed bump in third-quarter growth, we still anticipate that 2021 GDP will grow by 5.5%, with strong growth of 4.4% likely in 2022. Against this backdrop of healthy growth, firms will still have to grapple with lingering labor market issues exacerbated by the pandemic and longer-term structural issues impacting the composition of the labor force. The new ways of working and deploying technology are likely to last well beyond the pandemic and will have an enduring impact on the future contours of the economy.
1 Growth rates are on a quarter-over-quarter seasonally adjusted annualized rates.
2 Supplemental data measuring the effects of the coronavirus (COVID-19) pandemic on the labor market. The Bureau of Labor Statistics.
3 Oscar Jordia, Sanjay R. Singh, and Alan M. Taylor, Longer-run Economic Consequences of Pandemics, NBER working paper 26934, April 2020