US jobs boom will fizzle

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More on the US jobs market from Westpac’s Elliot Clarke today:

The US labour market delivered again in September, as strong employment growth continued and the unemployment rate fell to a new low dating back to 1969. Despite this strength however, the wages data did little to rebut Chair Powell’s message of recent weeks that there remains little reason to fear a wage and inflation breakout.

Coming in at 134k, the increase in nonfarm payrolls for September was disappointing in itself. However, as the household survey reported a 420k rise; ADP private payrolls came in at 230k (earlier in the week); and given the establishment survey’s susceptibility to poor weather (which Hurricane Florence clearly qualifies as), it is safe to say that nonfarm payrolls growth in the month was likely much stronger than the preliminary figure reported by the BLS.

Further, making up for the weather effect, the September report also included significant upward revisions to the July and August outcomes, adding 87k additional jobs to the previous estimate of the level of employment. The three-month average gain currently stands at 190k, on par with that of the prior twelve months at 200k. Current employment growth therefore remains almost twice the pace necessary to keep the unemployment rate unchanged – given population growth and participation.

It is not surprising then that the unemployment rate fell to 3.7% in September – the end of year target that we and the FOMC had as per our most recent forecasts and, as above, the lowest rate of unemployment in almost 50 years. While the U6 measure of underutilisation edged higher in September, at 7.5% it is still only 0.7ppts off its historic low – again emphasising that negligible slack remains in the labour force.

This limited spare capacity in the labour force highlights the importance of the persistent inflow of prime-aged workers into the workforce. As we have repeatedly noted, this supply of additional workers has a way to run, likely lasting to mid-2019. For as long as this trend persists, upward pressure on wage growth and hence inflation will be restrained.

Still, from the current level of 2.8%yr, hourly earnings growth will almost certainly accelerate over the coming year given demand for labour remains strong and is set to remain that way. This is evinced by the ISM employment series which are currently at historically elevated levels. Most significant given its share of the economy is the employment index for the service sector which, having jumped almost 6ppts in September, is at its highest level since the inception of the survey in 1997.

The key risk to the labour market story is not that employment growth will abruptly turn down, but rather that it will remain stronger for longer than currently anticipated. This is the outcome that would see the FOMC continue raising the federal funds rate past the 2.875% peak we forecast for June 2019. The FOMC themselves expect to raise the federal funds rate twice more past June 2019, and see a risk of one additional rate hike thereafter. For our view to prove correct, a material deterioration in growth is necessary from mid-2019. While conscious of the upside risks, we believe that the basis for this growth view remains sound.

Consider the impending headwinds for the US: higher interest rates; an elevated US dollar; extraordinary fiscal spending coming to an end at September 2019; and the highly uncertain effect of tariffs on US domestic business investment. All of these factors have to be navigated while keeping growth above trend to warrant rate hikes past June 2019. We must also add that the moderate acceleration in hourly earnings growth we expect will likely continue to limit real household income growth and therefore upside momentum for the consumer. Note that despite the strength of employment gains in recent years, real consumption is still only increasing at a pace in line with the average back to 2011, circa 2.6%yr.

Quite right. This is why I’m not especially concerned about the bond sell-off. At least until next year when I expect Trump to add infrastructure stimulus to offset the fiscal cliff.

Then I’ll be worried as the Fed will be forced pass neutral rates.

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About the author
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal. He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.