The data keep reinforcing the story that the U.S. economy has turned a corner and should be out of recession sooner rather than later. The latest strong signal came on Friday, when the Labor Department's May employment report showed a dramatic slowing in job losses, to 345,000, down from 504,000 in April and a peak of 741,000 in January. That many jobs lost in a month is still horrible, but the big change from the previous month and the fact that forecasters expected far worse are both indications that the economic tide has probably turned.
But there are tides, and there are currents. I keep thinking of something I heard Mohamed El-Erian, CEO of bond-investing giant Pimco, say at a conference in April: "We are so focused on whether recovery will be at the end of this year or the beginning of the next that we lose sight of the more important question. It's not whether the recession will be over; it's, What does the new normal look like?" (Watch TIME's video of Peter Schiff trash-talking the markets.)
It's a question with lots of facets. What will consumer spending look like? What will government deficits look like? What will my hair look like? But some of the most crucial unknowns have to do with corporate profits. Profits are, after all, what stock prices are supposed to be based on. Stocks have skyrocketed since early March, providing the earliest and strongest signal that the recession might ebb soon. One could even argue that rising stock prices brought optimism that has since begun to show up in real economic data, although if you think too hard about such feedback loops it will just make your head hurt. (See 10 things to buy during the recession.)
In any case, the future path of corporate profits should eventually determine whether the stock market will keep rising, whether companies will start hiring again, whether this recovery will feel like much of a recovery or not. And while Wall Street's analysts are all making (for the most part increasingly optimistic) estimates of what those profits will be, they really have no idea. That's because the mostly rising corporate profits of the past 35 years have been in large part the product of a long, long rise in indebtedness, especially consumer indebtedness.
That rise in indebtedness is now giving way to what looks to be a long slide. At least, it had better be; if consumers start piling on debt again, we'll just have another, bigger credit crisis in a few years. But if they keep increasing their savings rate and reducing their debt loads, that's bad news for corporate profits, not just bank profits. Anybody who makes things that in recent years were bought on credit, from houses to washing machines to cars, is likely to be affected. So are stock prices. "Higher borrowing produces both higher profits and higher asset prices," writes London-based money manager George Cooper in his 2008 book The Origin of Financial Crises, "while falling levels of borrowing cuts both profit and asset prices."
Before the current financial crisis began in 2007, U.S. corporate profits were at their highest level ever, both in absolute terms and as a percentage of gross domestic product. It's awfully hard to imagine a return to that kind of profitability anytime soon. Welcome to the new normal.