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Amazon Has Become A Macro Phenomenon

One of the riddles that is even vexing the Fed is why wages aren’t rising faster, given that the unemployment rate is already at, or even below what many observers consider the NAIRU (the “non-accelerating inflation rate of unemployment”) rate, that is the rate at which inflation starts to increase.

Every month the US economy creates 185,000 jobs on average, this is far outstripping the growth in the labor force, so the labor market is inexorably getting tighter and the overhang of discouraged workers from the post-financial crisis economy must be steadily decreasing.

However, instead of wage and price inflation creeping up, wages are steady and inflation is, depending on where you look, actually declining. Core CPI is declining and if you take out the 36% that is representing shelter, it has even sunk below zero, that is, deflation.

The Fed, steeped in Phillips curve thinking, is vexed by this problem. The Phillips curve depicts a supposedly stable relation between inflation and unemployment and argues that when unemployment falls below a certain level (that NAIRU), wages will start to rise and inflation will follow.

This is what the Fed has been expecting and it is the main reason it has started to raise interest rates, as a sort of pre-emptive strike even when inflation was actually pretty well behaved.

There is no shortage of explanations on why low unemployment isn’t sparking any wage (and subsequent price) inflation, for instance, here are two of the most common explanations:

  • Low productivity growth
  • Low nominal growth and hence low inflation expectations

If productivity growth was higher, wages could rise faster without causing wage cost to increase so this isn’t actually all that convincing an explanation. Low productivity should make price more sensitive to wage increases, not less.

Remember the 1970s? For reasons still not well understood, productivity growth slowed considerably all over the developed world from roughly 3% a year to 1% a year.

But somebody forgot to tell labor, as wage demands simply proceeded as if the productivity slowdown wasn’t happening, and this caused a ratcheting up of wages and prices in many countries.

To be fair, at the time, it wasn’t at all clear that there was any fundamental trend break in productivity growth, these figures are often quite volatile and establishing trend breaks only becomes clear after a considerable amount of time (years, perhaps even a decade) has elapsed.

The best case one can make for blaming slow productivity growth is that it has been internalized into expectations, which leads us to the next explanation.

More convincing is Scott Sumner’s explanation that it is simply the result of low inflationary expectations, which keep wages in check. We see this even more in Japan, where the labor market is arguably considerably tighter but wages simply fail to take off.

The Amazon effect

But there could be another explanation, which centers around the huge size and growing influence of the online (and increasingly offline) behemoth called Amazon (AMZN).

Perhaps like Wal-Mart (WMT) before, Amazon exerts downward pressure on both wages and prices by its sheer scale and efficiency. Several mechanisms are probable:

  • Amazon putting downward pressure on prices. By operating on a massive scale and essentially foregoing profit margins, Amazon forces other retailers to follow suit or risk losing business.
  • Through its scale Amazon exerts a powerful buying influence over suppliers so deflationary pressure moves not only down the supply chain, it also moves upwards.
  • We see a considerable fallout in the retail sector, which is labor intensive. The rise of e-commerce in general and Amazon in particular has led to a bloodbath in retail with chains like Macy’s (NYSE:M) and J.C. Penney (NYSE:JCP) in a tailspin. The effect might spread if malls start to fall under a critical mass of visitors, which can happen with the disappearance of one or two lead retailers.
  • And by starting its own bookshops and other retail like groceries like Whole Foods, Amazon is taking some of the economics directly into retail.
  • Twin forces of a large buying power and the threat (and execution) of automation are likely to keep wages at Amazon in check.

Let’s put some meat on these points, here is The Atlantic:

Overall retail employment has fallen every month this year. Department stores, including Macy’s and JC Penney, have shed nearly 100,000 jobs since October—more than the total number of coal miners or steel workers currently employed in the U.S. Even America’s richest areas are getting hit: Employment in New York City clothing stores has fallen three years in a row, the longest period of decline on record, going back to the early 1990s.

However, not everybody agrees (from The Atlantic, our emphasis):

The economist Michael Mandel estimates that since the Great Recession began, the e-commerce sector has created 355,000 new jobs, compared to about 50,000 total jobs lost in physical retail stores. Much of that growth has come from large fulfillment centers in warehouses. Warehousing is not used exclusively for e-commerce, but the change in warehousing jobs is highly correlated with Amazon’s job growth in the state; since 2009, warehousing employment has soared by almost 50 percent. Fulfillment centers pay 26 percent better than general retail jobs, and warehouse wages are currently growing twice as fast as the national average.

And Michael Mandel has a perfectly logical explanation:

This counter-intuitive outcome makes more sense when you think about how e-commerce actually operates in practice. A consumer previously had to take a significant amount of time to drive to the shopping mall, walk through the aisles of the store to identify the shirt they wanted, stand on line to pay, and then drive home. E-commerce moves these formerly non-market activities into paid work in order to increase convenience and allow consumers to use that time for other, more pleasurable activities.

To put this in perspective, warehouses employ 939,000 people in February 2017, a 44% increase in 10 years. Workers enjoy a pay of $12 an hour, on average, and these jobs are not really the future, here is Bank of America analyst Michael Hartnett, from CNBC

“[R]obotics, automation, artificial intelligence, [and] the daily disruption of technology are all killing wage expectations,” strategist Michael Hartnett said in a note Wednesday. “[C]orporations continue to emphasize cost-cutting over risk-taking and wide [swaths] of the labor market see that their ability to maintain wages & incomes are under enormous threat from technology.”

As it happens, these jobs aren’t much at present either, per Digitalcommerce360.com:

Working conditions at U.S. warehouses are often scrutinized for their grueling nature: Pickers complain of exhausting shifts, sometimes in oppressive heat or biting cold. Many of the jobs are temporary, fluctuating with the shopping calendar.

You ain’t seen nothing yet

So the evidence is mixed but the real effects are likely to be some time away, when Amazon will be even bigger and automate much of its fulfillment process. Here is The Guardian:

A recent analysis by Cornerstone Capital Group suggests that 7.5m retail jobs – the most common type of job in the country – are at “high risk of computerization”, with the 3.5m cashiers likely to be particularly hard hit. Another report, by McKinsey, suggests that a new generation of high-tech grocery stores that automatically charge customers for the goods they take – no check-out required – and use robots for inventory and stocking could reduce the number of labor hours needed by nearly two-thirds. It all translates into millions of Americans’ jobs under threat.

Amazon happens to be in the forefront of this, it bought Kiva systems, which produces warehouse robots, in 2012 and Bezos (Chicago Tribune):

decided to use the robots for Amazon and Amazon alone, ending the sale of Kiva’s products to warehouse operators and retailers that had come to rely on them. As contracts expired, they had to find other options to keep up with an ever-increasing consumer need for speed. The only problem was that there were no other options. Kiva was pretty much it.

That left the competition and those who developed complementary goods (like Locus Robotics) in the lurch, here is Bruce Welty from Locus Robotics:

“I said once to my board-casually, almost as a joke, ‘Boy, we’d really be screwed if Amazon bought this company,'” said Welty. “But I never really thought this would happen.” Such a move was unprecedented in warehousing: the mass withdrawal of one specific type of technology.

But Locus Robotics has developed an alternative, speeding up the race to warehouse automation. Locus is already selling to DHL Supply Chain, the world’s largest third-party logistics company (per Digitalcommerce360.com).

The good thing is, their robots work with, rather than replace humans, just as those of Fetch Robotics.

But even where robots complement workers, they will boost their productivity (otherwise it doesn’t make economic sense) so reducing the demand for labor. And there are already prototype robots, which can grab individual items from shelves, like the robots from German firm Magazino or American IAM Robotics.

There is definitely a robot war going on with the end point probably lying in complete automated delivery, from the Chicago Tribune:

Amazon is working on all sorts of automation in the hopes of cutting costs and speeding fulfillment. Alongside the Kivas, Amazon is working on automated drones as well. And those are just the robots it’s revealed to the public. “I have as no idea if this is as far as Amazon wants to take it,” said Jason Helfstein, an analyst at Oppenheimer & Co. “Do you get into autonomous vehicles? Self-driving trucks?”

Conclusion

Amazon already has a widespread influence on the makeup of the US economy. It squeezes a significant part of bricks-and-mortar retail, puts downward pressure on prices and it has probably sullied the economics of a part of US shopping malls.

Its effect on employment and wages are probably not negative at this point, but its influence is almost certainly going to accelerate from here. The question is, are we prepared for this?

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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