Monday, May 9, 2016

Lower US payrolls growth: consistent with lower GDP growth or a sign of full employment?

Growth in activity in the United Sates has been disappointingly soft since last 2015.  The question is whether the slowdown is real or whether it reflects transitory factors such as continued drag from prior strength in the exchange rate and the market volatility and resulting uncertainty at the start of the year. 

Our view of continued solid US growth in 2016 is predicated on expectations of continued growth in aggregate labour income, a big part of which is expected to come from continued solid jobs growth.  In that respect lower than expected payrolls growth of 160k (market expectation +200k) was disappointing.   That disappointment was, however, offset by other components of the survey which showed an increase in hours worked and a tick higher in wage growth – both of which are consistent with a tighter labour market.

The unemployment rate remained unchanged at 5.0% despite a decline in employment in the household survey (payrolls growth and the unemployment rate are derived from different surveys).  That was a function of a lower participation rate which reversed some of its recent move higher.  We’re not concerned about the weaker household survey employment as that reverses some very strong results recently and brings the two surveys more into line.. 

The unemployment rate remains at the top end of the Federal Reserve’s 4.7 -5.0% range estimate of full employment.  As an economy reaches full employment, employment growth typically slows as labour becomes more difficult to find and wages start to move higher.  At this stage of the cycle sustained payrolls growth of +200k per month will be difficult to achieve with a move to lower levels likely.  It’s at this point we would expect to see productivity to improve as firms turn to labour-saving investment to resource the rising demand for their goods and services and to ameliorate the upward pressure on unit labour costs.

So to complicate things for the FOMC, lower payrolls growth is not necessarily a sign of a weaker labour market and weaker economy generally - it could be consistent with a tight labour market and rising wages and ultimately inflation.  
But while activity data remains soft and uncertainty remains about the degree of slack in the labour market it’s unlikely the FOMC will raise interest rates in June.  Indeed we would need to see some spectacularly solid data between now and the middle of June for the Committee to hike.  Realistically the most likely timing of the next interest rate increase in the US is September.