The Big Conversation
Episode 90: How weak is the US jobs market?
This week we look at the recent big miss from the Non-Farm Payrolls and compare this to some of the other jobs data which suggests there is a massive shortfall in available workers. But are these bottlenecks obscuring the bigger picture in which the outlook for jobs continues to deteriorate? The participation rate continues to subside, and this has been pulling down bond yields. Did the economy ever recover from the previous shock in 2008?
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Roger [00:00:00] Just how strong is the US economy? Despite the risks that the data has reached a cyclical peak, the narrative has been dominated by a series of data points from the labour market which imply that the hiring plans are breaking all records as businesses scramble to fill positions, a situation that will only get worse as we head into the year-end holiday season. So was the big miss in the August payrolls number, therefore a wake-up call? In this week's Big Conversation, we look at both sides of the employment equation and take a look at whether the short-term demand for jobs is actually obscuring a longer-term structural shift that has left the US and the global economy on a weaker footing.
The August Non-Farm payrolls data was a big miss. It was expected to be in excess of 700,000 new jobs, but it only just beat 200,000. There were some positive revisions to the prior release to offset some of this miss, but even when those are accounted for, it still fell well short of the forecasts. Intraday, the bond market initially rallied, pushing yields lower, but this quickly reversed to post higher yields as expectations that a potential taper announcement from as early as the FOMC meeting on September the 22nd, would be pushed back. The initial reaction was to put this miss down to resurgence in the Delta COVID variant. But it's not the first big miss or beat that we've seen. And it's a reminder that the impact of the pandemic, particularly on employment, will take a very long time to work through the system, with seasonal adjustments extremely hard to calculate under these circumstances. The payrolls, therefore, could be dismissed as yet another rogue data point that will eventually even out over a long enough time period. But other data points within the labour market appear to be incredibly strong. The JOLTS Job Openings continues to rise, now standing at a record of just over 10 million. This has often been cited as a clear indication that the real job market is incredibly tight and that businesses want to hire, but they just can't find the workers. This data is also backed up by other surveys. The NFIB Small Business Index for hiring has also surged to a new high. Andreas Steno Larsen, Global Strategist at Nordea Bank, has inverted the index and mapped it against the US unemployment rate. It suggests that the US unemployment rate could fall to multi-year lows over the coming months. The big question is whether a falling unemployment rate will create true labour tightness and rising wages, which is one of the main ingredients of lasting inflation, or whether this will again be like the pre-pandemic period where the unemployment rate dropped below 4% and yet wages and inflation remain benign. There is, however, some uncertainty around the hiring plans of businesses in the US. There's clearly a skills mismatch taking place in which vacancies require specific training in order for them to be filled. Training programmes during the COVID period have often fallen by the wayside, and this has led to severe shortages in some of those labour pools. Tanker drivers in the US, for instance, have been in short supply, creating the threat of higher gasoline prices that has nothing to do with the underlying oil market. In the UK, there is still an acute shortage of truck drivers, leaving many supermarkets with shelves that are much emptier today than they were at the height of the panic buying during the onset of the pandemic last year. Major retailers such as Marks and Spencer and the Co-op have indicated that they expect the situation to get far worse, and for consumers to be prepared for shortages during the year-end festive season. But the hiring issues are perhaps not as acute as that headline data suggests. Businesses want to hire, but they do not want to hire at any price. Many of the job openings are conditional on workers accepting wages at the lower end of the wage spectrum. There has been a reluctance for many workers to do so. But government transfer payments are not the only reason why there is a reluctance to take these jobs. The JOLTS quits level, though not as dramatic as the jobs openings data, has also surged to a new high. Workers who were promised that they would receive higher wages once the worst of the pandemic had passed, a fact that in many cases those higher wages never materialised. And this is all part of the conundrum. If the economy really was as strong as some of the jobs openings data suggests, then employers should be happy to increase wages because this would be more than offset by the demand that comes hand in hand with a stronger economy. In some instances, higher wages are coming through because the shortages in some sectors are so acute that employers have no choice. But these are reluctant pay rises. For the broader market, wholesale increases are not yet materialising. The ISM Employment Index has again dropped below 50, indicating that large-sized manufacturing businesses are looking to reduce labour. The employment subindex has significantly diverged from the headline ISM Index, which is still above 60. If these businesses believe the economy was robust, they would be gearing up for future growth by making additional hires today. And this is where we need to look at the longer-term structural employment. Jeff Snider of Alhambra Investments uses the labour force participation rate, and this is the percentage of working-age civilian population that's employed or seeking employment. It's a key input to understanding the true state of the economy. It's been falling for the best part of 20 years, having accelerated lower in the aftermath of the great financial crisis of 2008. This is the period in which policymakers supercharge the monetary response to the financial crisis and then double down with a combination of fiscal in addition to the monetary policy over the last year. To paraphrase Jeff 'the economy was not strong before 2020 and it's not strong now'. We arguably had full employment in 2000 where both the unemployment rate was low and the participation rate was high. Since then, the participation rate has continued to fall. When the long term unemployed have used up all their job seeker's allowance, they drop out of the statistics allowing the unemployment rate to drop even as the number of long-term unemployed increases. We can see the yawning gap of the last decade, and this explains why wage inflation didn't kick in when the unemployment rate was so low prior to the pandemic. Andreas Larsen of Nordea has also shown that the economic outlook from the current jobs conundrum is unlikely to help future productivity. When we look at the year-on-year change, the NFIB Jobs Hard To Fill Index and compare it with the year-on-year change in US productivity, the current labour distortions suggest that the productivity could drop dramatically. Unit labour costs should rise to compensate for the shortage, but as we've already seen, businesses remain reluctant to pay higher wages because they want to protect margins. The headline data of an apparently tight labour market, therefore, does appear to be hiding the ongoing weakness in the US and also the global economy, where in fact many of these issues are actually as acute. The US structural issues appear in other data sets, too. When we look at US personal consumption expenditures, it looks like they've surged, which is in line with all the data on household savings and US money supply growth. Demand for many goods had exploded over the last 12 months, though the price rises in many large item durable goods, including housing and vehicles, has seen demand start to drop off for many of these items because wages cannot keep up with some of these supply shock price surges. But when we look at personal consumption expenditures chained to 2012 prices, we can see that the rebound is still falling short of the pre-2008 trend. You may recall 2018 was the year we saw two spikes in bond yields, which pricked the equity market in both early and late 2018. Furthermore, the exceptional US personal savings rate has also started to normalise, suggesting that the extreme levels of capital accumulation over the last 18 months are not sustainable. Cumulative savings remains historically high, but the experiences of the last year may discourage households from running down their cash buffers too quickly. The US is therefore an economy which remains structurally weak. It's unable to support true reflation because higher yields are unsustainable in an environment of excessive debt. And household cash piles may well be held in reserve as an offset. If businesses are only choosing to hire if the wage is right, then true long-term growth in both the economy and wages is unlikely. But whilst this might not be great for the economy as a whole, it should be fine for financial markets. The US 10-year yield has been declining with the falling labour force participation rate, and this has been a major contributor to the success of the US equity market and the tech sector in particular over that time period. The labour force participation rate is unlikely to rebound back to pre-COVID levels any time soon. That should help cap yields and prevent the need for the Fed to invoke a yield curve control programme. That should also bolster the corporate buyback bid. But this will again be at the expense of long-term capital investment and growth. The key risk to this scenario is a short, sharp sell-off in the bond market, leading to a VAR shock, but that is exactly the type of situation in which the Fed would be compelled to intervene. And some of the recent certainties of loose and ongoing fiscal support have also taken a hit. Democrat Senator Joe Manchin has thrown a spanner in the works by rebuffing their three-point five trillion fiscal package via an article in The Wall Street Journal last week. He specifically cited the threat of inflation and debt. It may just have been a warning shot about the excessive use of accommodation, but the Democrats have a flimsy majority and a single senator could easily derail that package. Without the fiscal side of the equation, loose monetary policy has consistently failed to deliver long-term results over the last decade. Resistance to more fiscal support would therefore further help bonds remain subdued, benefiting the broad-based equity market. Now, obviously, that's not going to benefit the reflation side of the story. But we've shown in recent weeks that the reflation narrative was mainly a US narrative, with European and emerging markets having failed to outperform when reflation was all the rage earlier this year. Now, given this backdrop of data starting to drift lower against a structural backdrop that has remained weak throughout, the Fed may still be happy to taper sooner than most expect. A tapering, or reduction of bond purchases, will take some of the inflation expectations out of the market, and this should help nominal yields fall, because inflation expectations were the main driver of nominal yields last year. As long as real yields remain subdued, the Fed should be OK with that, but it throws out yet another conundrum for them. The Fed were one of the main drivers of inflation expectations last year. They helped push both inflation expectations and nominal yields higher in the hope that the market would believe that reflation was coming. The problem is you can't reflate the participation rate. If we get higher inflation expectations and higher actual prices due to bottlenecks, but without an increase in sustainable demand, then we're not going to get a hiring spree or a broad-based round of wage hikes. That, in turn, means that we're unlikely to get the sort of long-lasting growth that will help reduce the debt burden. So today's immediate employment situation does remain constrained despite the weak payrolls data. But this will eventually give way to the longer-term framework, which continues to see a softening in the structural outlook for jobs. If you've got any questions about this episode or anything else to do with financial markets or the economy, please put your questions in the comments section or send them to TBC@Refinitiv.com
Episode 89: A slowdown is coming - should we care?