Initial Claims for Unemployment Insurance fell to 472,000, a drop of 6,000 from last week. That is good news, but only in terms of the direction. After several weeks in a row of new claims shooting higher, the upward momentum has been stalled with two straight weeks of declines, but initial claims remain far too high.

The four-week moving average fell by 2,500 to 485,500. That is just below the highest level for the moving average since last November. After falling sharply in the second half of last year, the four-week moving average had seemed to be trapped in a tight “trading range” and last week’s big increase threatened a break out to the upside. (See graph below from http://www.calculatedriskblog.com/)

While we are still comfortably below the year-ago level of 566,750 on the moving average, then the average was falling fast rather than drifting upwards. To really start to put a dent in the vast army of the unemployed, we really need to see the four-week average fall below 400,000, not be rising over the 500,000 level. If the four-week average moves above the 500,000 level and stays there it seriously increases the risk of a double-dip recession.

Continuing Claims

The news on continuing claims was also positive, at least in terms of direction. Regular continuing claims fell by 23,000 to 4.456 million. That is down 1.655 million or 27.1% from a year ago. That, however, gives a very incomplete picture of what is going on. Regular continuing claims are paid by the state unemployment insurance funds and only last for 26 weeks. In July, half of all the unemployed had been out of work for more than 22.2 weeks, and 44.9% had been out of work for more than 26 weeks.

Tomorrow we will see if the unemployment duration numbers have continued to decline, or if the July drop was an aberration, perhaps caused by the temporary cut-off of extended benefits.

After the 26 week mark is hit, people move over to extended unemployment claims, paid for by the federal government, provided that they are available. In every recession since the end of WWII, Congress has extended benefits. However, a few months ago, an extension of benefits was filibustered in the Senate, and the benefits ended for millions. That filibuster was eventually overcome, and now those people are streaming back on to the extended benefit rolls.

This week (actually two weeks ago, as the extended claims data is a week behind the regular continuing claims data, and two weeks behind the initial claims data), that return process seems to have finished. Extended claims fell by 320,000 to 5.441 million. That is 1.781 million higher than it was in mid-July, which was the low point in extended claims due to the filibuster shutdown. It is also 1.558 million (40.1%) higher than a year ago.

A better way to look at the data is the total number of people getting unemployment benefits, regardless if the state government pays, or the federal government does. On that basis, total claims fell by 343,000 in the last “week” and are 97,000 (1.0%) lower than a year ago. What is not known is why the total number of people getting benefits declined. If it is because they found new jobs, then it is great news.

But extended benefits do not last forever. The maximum, which only applies to the areas of the country with the highest unemployment, is 99 weeks, or just short of two years. The economy was already in recession two years ago, and we are coming up on the two year anniversary of the collapse of Lehman Brothers, etc. That is when the economy really fell off the cliff. If people are simply “aging out” of the system, that is very bad news, mostly for them, but also for the economy as a whole.

The Virtues of Unemployment Insurance

Clearly it is not good to have so many people unemployed, but it is better that people are getting benefits rather than being left with no income at all. Unemployment generally (it varies a bit by state) pays 60% of what people were earning before they got laid off, up to a cap of about $400 per week, or $21,000 per year. If we assume that the average benefit is $300 per week, then it means that $2.6 billion a month more is being pumped into the economy. It is going to people who will spend that money right away. 

That means more business for Wal-Mart (WMT) and Big Lots (BIG). It means that these people are able to continue paying their mortgage or rent and don’t become homeless. It means that their electricity is not shut off. It means that they still can have an internet connection from which they can continue looking for work.

It is not just the humanitarian benefit of making sure that our fellow citizens do not slip into third world style poverty, it is that the money gets pumped into the economy and as it is, it keeps other people working. It is for that reason that the non-partisan CBO has found that extended unemployment benefits is among the most effective programs around at stimulating the economy on a job saved per dollar spent basis. Moody’s Analytics has come to similar conclusions. The table below is from the New York Times and based on Moody’s data. Note that extending unemployment benefits is far more effective on a bang for the buck basis at raising GDP growth than is any tax cut, particularly extending the Bush tax cuts.

Clearly, though, getting an unemployment check is not a good substitute for actually having a job. Being on unemployment means a minimum 40% cut in your income, and for most people much more than that. People don’t know how long they are going to be out of work. 

In this downturn, the average duration of unemployment has been so much worse than ever before (OK, we don’t have the data for the Great Depression, but since WWII). It is a pretty fair bet that most have been looking much longer than they expected to be when they first got laid off. That means they have probably already depleted all of their savings outside of their 401-K plans, and probably dipped heavily into those as well.

Keep in mind that the savings rate in the country before the recession hit was at extremely low levels. What savings the nation was doing was very concentrated among those with high incomes. Thus the people who are out of work are probably not the ones who had a lot of savings. The long-term unemployed have also probably maxed out their credit cards by the time they have been out of work for six months or more. Without unemployment benefits, they would be left with no financial resources at all.

Unemployment Benefits Must Remain Temporary

Extended unemployment benefits are a band aid, not a cure. Band-aids are useful items to have in a first aid kit as they prevent infection, but the injury requires more to heal than a band aid. Extended benefits don’t bring the psychological rewards that actually having a job has, in addition to paying much less than a real job would. When people are out of work for extended periods, their skills deteriorate and their contacts grow stale. They become less employable.

The longer you are out of work, the lower your salary is likely to be when you do find a new job. From the economy’s point of view, this idleness is simply a loss of production that can never be made back up. 

We need to be doing more to stimulate actual employment. With consumers (with jobs) trying hard to save and deleverage their personal balance sheets, they are not spending the way they used to. While building up your savings is a good thing on a personal level, when everyone is doing it at the same time, it results in a sharp slowdown in the economy. With the consumer being over 70% of the economy, when spending turns down, the economy will as well. Extended benefits do help prop up consumer spending, but relative to the increase in the savings rate, it doesn’t do that much.

Of course, if consumers are not spending, and are not likely to start spending in the near future, then business will have no reason to invest (except perhaps is equipment that can cut costs, by substituting capital for labor) regardless of how low the cost of capital gets. What do you say to the lathe salesman when he tries to sell your business a new lathe, and 6 of the 20 lathes you already have are sitting around gathering dust from a lack of demand for your goods? Would it really matter to you if you could finance the purchase at just 1% for five years? Probably not.

Not Worse — But Any Better?

Overall, this report was mildly encouraging, but it is hard to be enthusiastic. It is more like relief that things were not continuing to get worse than any real feeling about things getting better. While this was the second week in a row of declining claims, the drop this week was significantly smaller than last week and we just managed to get back to the high end of the previous “trading range.” We need to see a steady pattern of declines in the initial claims numbers to start to get enthusiastic. That, however, is one very large IF.

Dirk van Dijk, CFA is the Chief Equity Strategist for Zacks.com. With more than 25 years investment experience he has become a popular commentator appearing in the Wall Street Journal and on CNBC. Dirk is also the Editor in charge of the market beating Zacks Strategic Investor service.

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