“The data in today's labor market report on balance suggest that the labor market has slowed. Nonfarm payroll employment increased at an average monthly pace of 116,000 over the last three months--well below the 220,000 per month average pace over the preceding twelve months. The unemployment rate moved lower, reaching 4.7%, a new low in the current recovery, but involuntary part-time employment increased and the labor force participation rate declined. Even so, there are reasons to expect that the labor supply still has room to respond if labor demand increases.”
– Fed Governor Lael Brainard, June 3, 2016
The economy added nearly 697,000 private-sector jobs in May. That’s before seasonal adjustment (in comparison, we added 996,000 in May 2015). One month does not necessarily make a trend, but figures from March and April were revised lower, reinforcing the view that (seasonally adjusted) job growth has slowed. The question, for the Fed and for investors, is why.
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Mild winter weather may have pulled forward seasonal job gains into the spring. Prior to seasonal adjustment, the economy added 2.91 million jobs from January to May, vs. 3.19 million over the same period last year. That’s not a huge difference.
There is a fair amount of statistical noise in the payroll data. Figures are reported accurate to ±115,000. We can be 90% certain that the true monthly change in payrolls was between -77,000 and +153,000. We can reduce the impact of statistical noise by looking at the three-month average: private-sector payrolls at +107,000, vs. a +214,000 average over the 12 previous months. So yes, job growth appears to have slowed significantly.
In its sampling, the Bureau of Labor Statistics misses new firms and firms going out of business. The birth/death model corrects for this. The birth/death model correction (to unadjusted payrolls) was +224,000 in May, vs. +217,000 a year ago. The birth/death model does well under normal conditions, but misses turning points. If wrong, the May figure would be even worse.
Surveys have shown an elevated level of business caution. Worries about global growth, the June 23 Brexit vote, possible Fed policy actions, and the presidential election have led firms to delay capital spending projects (even though they have the means to finance expansions). There are signs that some firms pared inventories in anticipation of weaker demand, only to struggle a bit to restock as demand ended up stronger than expected. Until recently, there weren’t many signs that firms had curtailed hiring (if the economy were to slow more significantly, you can always lay off workers, but if you make capital expenditures, you may be stuck with idle plant and equipment).
Job growth was strong in the last two years, but the pace was naturally expected to slow this year as the job market tightened. Anecdotally, many firms report difficulty in finding qualified workers. Perhaps more precisely, firms are having trouble hiring workers for the wages that they are willing to pay. There’s still a strong emphasis on cost containment. The job market has tightened, but average hourly earnings are still up only 2.5% y/y.
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The unemployment rate fell to 4.7% in May, the lowest since before the recession. However, that’s still a bit misleading, as labor force participation is well below the pre-recession level. The employment/population ratio for the key age cohort (those between 24 and 55) has been trending higher, but the level still suggests that there is plenty of slack in the job market. Perceptions of labor market slack have been the key factor in competing policy views at the Fed. The more hawkish Fed district bank presidents often get more press than they deserve.
One opinion matters more than others, that of Fed Chair Yellen. Yellen will speak on the economy and monetary policy in different contexts over the next three weeks. Financial market participants might want to pay attention. The Fed remains in tightening mode, looking to resume the normalization of monetary policy. However, given the recent data, officials should be in no particular hurry to raise rates.