Monday, August 4, 2014

Growth and the labour market in America

US GDP rebounded strongly in the second quarter following the weakness in the first three months of the year.  Annualised GDP growth came in at 4.0% in the 3-months to June, a sharp recovery from the revised contraction of -2.1% in the March quarter.  This confirmed the weak March quarter was an aberration.

That said the detail of the June quarter result was somewhat weaker than the headline suggested.  It was the substantial turnaround in inventories that accounted for around half the improvement between the two quarters.  The percentage point contribution to growth from inventories was -1.2% in Q1 and +1.7% in Q2.  Real final sales came in at only +2.3% (annualised) although that growth was broad based including 2.5% for consumption.  Net exports was the major negative contribution detracting -0.6% over the quarter.

Even with the sharper-than-expected rebound over the quarter, growth for the first half of the year was a miserly 0.9%.  We expect growth of around 3.0% for the second half of the year as we expect further solid gains in employment which will help underpin consumption, strong business investment and less drag from net exports.  That will deliver calendar year annual average growth of 2.1%, still a touch lower than the upwardly revised 2013 outcome of 2.2%.

July payrolls data came in at +209k, lower than the expected +230k.  While the markets were disappointed in the result, it’s now the sixth month on the trot of employment growth in excess of 200k.  Six months ago that would have been considered a great outcome!


The unemployment rate edged up to 6.2% but only because the participation rate edged up too.  That in itself is a sign of a stronger labour market.  After five years of solid decline the participation rate has now held steady since late last year.  We expect that will continue to put a bit of a brake on future falls in the unemployment rate.

Wages were flat in the month with the annual rate coming in at 2.0%.  The Employment Cost Index put in a healthy quarterly increase of 0.7% (not annualised).  While that seems like a big increase it takes the annual rate to 2.0%, the same as the still subdued annual increase in wages.  While annual wage rates are still subdued, wages are trending higher.  We expect that to continue into the second half of the year.

While wages are trending higher, as are core measures of inflation, there is no need for panic.  The FOMC was still pretty relaxed last week.  While they acknowledged the improved economic conditions, they also concluded that the downside risk to inflation had diminished. The committee kept the forward guidance unchanged although there was one dissenter in the ranks which will make the minutes an interesting read.

We are still happy to be amongst the consensus of no interest rate hikes till mid next year – the risks to me appear to be biased towards an earlier rather than a later move.  Whatever the eventual answer, markets will have anticipated this well in advance.