Day: 2011/12/15

Good News! The Legal Sector Grew 2.3 Percent in 2010! The Bad News? Everything Else.

On December 13, the Bureau of Economic Analysis (BEA) updated its “GDP-by-Industry” page, which means it released all sorts of useful information on what happened to the legal sector of the U.S. economy in 2010, the sector that employs the vast majority of lawyers.

Skipping the soup & salad, we find that in 2010, the legal sector posted 2.34 percent real growth ($3.9 billion). To put this in context, that’s the highest rate since 2004, and it’s the first serious growth since the legal sector started contracting from its peak in 2005. You heard that right. The legal sector has done very, very badly in the 21st century; in fact, it’s still smaller today than it was in 2000. Readers will recall this animation.

Less obviously, the BEA also changed its methodology and revised the last several years of data, which means I get to revise it on all my static pages. Joy. The good news here is that the “Great Law Depression” in the animation wasn’t as bad as it looks. By “as bad” I mean that in 2008, the legal sector did not contract but actually grew … 0.61 percent. Growth is growth, though, but 2008 was preceded by two years of contraction, and 2009 was one year of big time recession (-10.77 percent). The revised graph illustrates.

Those who go to the BEA’s Web site might be excited by this line:

“Recoveries in durable-goods manufacturing, wholesale trade, and professional, scientific and technical services industries were the leading contributors to the turnaround in U.S. economic growth in 2010.”

Private legal services are “Professional, Scientific and Technical Services,” so they contributed to the recovery, right? Nope. I’ve made much of others making much of the legal sector’s share of GDP. Despite the turnaround, the overall economy outdid the legal sector yet again, and now the share-of-GDP is at yet another record low of 1.31 percent, down 0.01 percent. Here’s that and the new rate of change.

Compared to “Professional, Scientific and Technical Services,” the legal sector lost share yet again to a new record low of 11.04 percent.

As I said, I don’t take too much from the share of GDP, but don’t say that legal services helped lead the recovery just because the BEA says its parent category did. I still think that at best legal services will never be too much more than 1.5 percent of the U.S. economy as it was in 2005.

Elsewhere in bad news land, the price of legal services continues to increase over inflation, unrelentingly as usual. The legal sector deflator grew 3.85 percent in 2010 in contrast to the GDP deflator, which grew a mere 1.15 percent. From 2001 through 2010, the cost of legal services grew 54.7 percent while the GDP deflator only grew 22.3 percent. In real terms, America paid a quarter more than what it paid for legal services in 2001, and it got four percent less for it.

How this can be sustainable and why it occurs remains a mystery to me.

Unlike shares-of-GDP, I have made much of what I refer to as the “bottleneck argument,” which law school administrators deploy to combat claims of systemic law school over-enrollment by responding that the Great Recession is wholly responsible for underemployed law graduates, all of whom will have fruitful legal careers once the economy recovers. I’ve decided to start researching this from the legal sector output perspective. In other words, what should the legal sector’s output be if 1997-2005 growth rates had continued? Projecting it out, we get this:

From 2006 to 2010, the legal sector should have given us $1.036 trillion, but instead we only got $903 billion, which is a $133 billion deficit over those five years, or 12.8 percent of total potential output. In 2010, the legal sector operated about 21 percent below capacity. But now you ask, “But LSTB, surely the 2.34 percent growth this year means we’re on the road to recovery right? Green shoots I say!”

The problem is that in the reference period, 1997-2005, the legal sector grew at an average annualized rate of 2.7 percent. True, we don’t know what happened in 2011—and like you I wish the BEA released these data more quickly—but with painfully slow growth overall, the fade out of the 2009 stimulus, even Howrey’s collapse in the spring, I don’t think 2011 will be better than 2010. In short, the U.S. legal sector is going nowhere. We’ll see if I’m right next year.

Moreover, there’re two pieces of evidence that pretty clearly suggest that those $3.9 billion did not go to fresh law school graduates, which would validate the bottleneck argument. The BEA’s employment data were updated as well, and the numbers of “full-time equivalent,” and “full-time and part-time workers” in the legal sector both dropped. The number of “Persons engaged in industry”? It grew by 1.8 million.

Wait, what???

See for yourself.

I didn’t make that up, but I sure as shit think it’s a typo. For this next chart, I assumed it was 1277, which seems most accurate, and by “seems” I mean “gut-guess” ’cause 1077/1177 sound abysmally low.

In 2010, there was a net loss of 6,000 full-time equivalent jobs in the legal sector. Aside from full-time, non-lawyer support personnel layoffs, that can’t mean many stable long-term positions opened up for neophyte lawyers, self-employed or otherwise. In fact, between 1998 and 2010 there’s only been a net growth of 93,000 full-time equivalent positions against 346,220 ABA law school grads.

Using the same exponential projection methodology, here’re the potential full-time equivalent legal sector jobs versus the actual numbers.

That’s a 174,000 jobs deficit in 2010 (13.9 percent). From 2006-2010, there were 219,288 ABA grads. Obviously the jobs deficit includes non-lawyers, and it’s on top of the juris doctor surplus the Bureau of Labor Statistics has known about since at least the 1990s. Also, don’t forget the lawyer attrition rate must be fairly high, which is good for the short-term employment data but bad for long-term concerns about career satisfaction, debt repayment, and the stability of the profession.

Still it is a fairly large gap, and while I’m skeptical there could be that many lawyer jobs, who knows, maybe the bottleneck really is that large. I admit I’m pretty much acclimated to a world with high unemployment and dim prospects for new lawyers, so maybe 100-150,000 law school graduates over those years could’ve found meaningful work in the profession, at least for a few years. I just don’t think that counterfactual is a plausible alternative outcome given structural factors affecting the legal profession, but let it not be said that I lack imagination.

Back to the topic of where the new $4 billion of legal sector spending went, here’s the BEA’s composition of the legal sector’s “value added.”

I’m fairly sure this is not inflation-adjusted, but it tells a lot about how the sector reacts to growth (pays lots of taxes), recession (stop hiring employees, cut gross operating surplus), and recovery (increase gross operating surplus). While employee compensation and taxes are intuitive, gross operating surplus means everything else, which is unhelpful. The Expert Glossary defines it as, “consumption of fixed capital, net business current transfer payments, corporate profits, and proprietors’ income.” In other words, they’re maintenance costs, firm gifts, payments for personal injuries caused, taxes to foreign governments, and of course, firms’ and partners’ hauls, which I’m guessing are the largest component of the surplus. I don’t know enough about firm tax structure or if firms tend to sit on large profits without distributing them, or even if they’re allowed to, but ultimately firm profits are partner income. This is where the 2.34 percent growth went. Not to law school graduates. The bottleneck is still growing.

What to take from this? From 1998 to 2008 employee compensation grew an average 6.2 percent, and in the same period, the gross operating surplus grew an average 7.6 percent per year. The surplus is also much more volatile: mean average deviation of 4.9 percent versus 1.5 percent for employee compensation. Since 2008, employee compensation has halted, and in 2010 it only posted a mere 0.4 percent growth while the surplus grew a whopping 14.1 percent. To put this in perspective, here’s the legal sector’s output per full-time equivalent worker.

I remind readers again that in 2010, FTE workers dropped, so the legal sector essentially distributed the $3.9 billion among existing workers.

This, folks, is why I look at government data instead of NALP’s on graduating classes. Assuming that anyone who starts their own practices will not make more than if they had not gone to law school—which I think is fair—unless employee compensation and FTE workers start making serious upturns, it’s going to be very rough for new lawyers trying to find long-term partner-track work in the private legal sector. With technology, outsourcing, and clients unwilling to pay associates, I predict employee compensation will stagnate indefinitely and gross operating surplus (and taxes) to grow instead. Hopefully the BEA won’t make us wait until next December to test that prediction.