The Jobs Mosaic

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On Wednesday of next week, the Federal Reserve will almost certainly embark on its long-anticipated easing cycle. However, whether the first cut in the federal funds rate is 25 or 50 basis points is still very much in doubt. This is a crucial question for the economy and financial markets since a 50 basis point cut might well do more harm than good if businesses, consumers and investors saw it as a signal that the Fed is worried about recession.

The most important issue for the Fed as they debate this decision is the strength of the U.S. labor market. It is quite clear that job growth has slowed over the past year as the post-covid rebound has faded. But is the labor market stalling, or just slowing to a more gradual pace?

The two main government surveys on the U.S. job market are both facing significant challenges in shedding light on this question. Since November 2021, one survey shows employment has grown by 9.6 million jobs, while the other shows a rise of just 5.9 million workers. This 3.7 million gap reflects the mixed signals the government’s monthly reports have been showing for quite some time now. Fortunately, we have other angles from which we can assess the state of the job market. Apart from the monthly jobs report, we also get weekly updates on how many people are claiming unemployment benefits and various private sector surveys. In addition, we can look at the economic forces that typically drive employment growth to consider what should be happening to the job market, along with data that typically reflect the economic consequences of job growth.

Together, all of these perspectives constitute a mosaic that produces a much clearer picture of the labor market. So far, this picture is of an economy and labor market that is slowing rather than stalling. However, this slower-moving expansion is also more vulnerable, underscoring the need for policy makers to be particularly careful in their actions and messaging when embarking on a rate cutting cycle, and a need for investors to be extra vigilant in watching all of these labor market signals in case they more broadly turn south.

The Challenge in Measuring Jobs

Both the establishment and household surveys face significant challenges in providing an accurate portrayal of the labor market. For starters, they are both surveys rather than population counts (of roughly 119,000 companies and 60,000 households respectively), which makes them subject to sampling error. This issue, on its own, is quite significant. Indeed, because of sample size, the Bureau of Labor Statistics (BLS) estimates that it can only be 90% confident that the true number is correct within 130,000 either way of the payrolls figure and within 0.2% either way of the unemployment rate. To put this in perspective, on Friday, the BLS reported a monthly job gain of 142,000 and an unemployment rate of 4.2%. However, the BLS is only 90% confident that the true payroll gain was between 12,000 and 272,000 or that the unemployment rate was between 4.0% and 4.4%.

In addition, survey response rates for these two surveys have fallen sharply in recent years. For the household survey, the response rate has dropped from 89% to 70% over the past decade. For the establishment survey, over virtually the same period, it has fallen from 63% to just 43%. Just as in political polls, any different patterns among non-respondents compared to respondents will further erode the accuracy of the figures.

A second issue has to do with seasonal adjustment. The markets and the public rightly focus on seasonally-adjusted employment data, but these seasonal adjustments are very significant. Without them, for example, over the past 10 years, the average January would have been reported with 2.8 million fewer jobs and the average November with 600,000 more. Seasonal factors are calculated based on the seasonal patterns of previous years. However, the extraordinary swings in the data over the course of the pandemic distorted all of these patterns. In addition, the pandemic itself, by creating industry winners and losers and by changing behavior with regard to work from home likely further distorted these patterns, casting more doubt on the accuracy of these numbers.

Third, there is the issue of immigration. The household survey is bolted on to estimates of the growth in the civilian population aged 16 and older provided by the Census Bureau. However, these numbers show an increase of just 1.6 million in this population over the past year. While data on immigration and its effect on the labor force are subject to uncertainty, estimates from the CBO and Brookings suggest immigration could account for 2-3 million additional workers since 2022. A underestimation of the civilian population would help explain why the reported 0.4% increase in the unemployment rate and 0.1% decline in the labor force participation rate over the past year resulted in employment falling by 66,000 workers over the same period, which is entirely at variance with other employment measures.

It should be emphasized that none of this implies that the BLS is somehow faking the numbers or, worse still, doing so for political purposes. We firmly believe that the BLS is doing its best to honestly portray the state of the job market. However, it does underscore the need for constructing a broader mosaic of the jobs picture and assessing the signals from different vantage points.

The Government Surveys of Companies: Flashing Orange

On its surface, the August reported payroll gain of 142,000 seemed relatively benign – only slightly below the 165,000 consensus expectation and close to the 163,000 average monthly gain seen over the last decade. However, revisions further chipped away at gains for the prior two months which are now estimated at 118,000 and 89,000 respectively, bringing the three-month moving average down to a lackluster 116,000. On a more positive note, the average workweek increased by 0.1 hours and average hourly earnings climbed by 0.4%, or 3.8% year-over-year, very likely marking a 16th consecutive month of year-over-year wage gains outpacing consumer price inflation.

It is worth noting that the recent preliminary annual benchmark revision to the payroll survey subtracted 818,000 from the employment figures for the twelve months preceding March 2024. This would cut the gain in employment in that time frame from 2.900 million jobs to 2.082 million jobs and could indicate a lower trajectory on job growth since then. However, the latest revisions reflect new population estimates from unemployment insurance tax records, which likely undercount new migrants. The revised data are also subject to another revision in February 2025, and large revisions are not uncommon in this process.

A second government survey of businesses, last week’s JOLTs report, provided further confirmation of labor market cooling with the number of job openings falling from 7.910 million at the end of June to 7.673 million at the end of July. However, while well off their peak of 12.2 million, current job openings are still higher than in any month prior to the pandemic.

The Government Household Surveys: Flashing Orange

The household survey saw modest improvement in August relative to July with the unemployment rate falling from 4.25% to 4.22% and the economy adding 168,000 workers. However, the unemployment rate has still risen significantly since hitting a 54-year low of 3.43% in April 2023, with a rising, although still very low, number of workers reporting that they worked only part-time for economic reasons.

It is important to note that while unemployment has been rising, layoffs remain at historically low levels, suggesting that this deterioration may simply be a correction from the super-hot labor market of 2022 and 2023, when many people who would normally have trouble keeping a job found themselves in employment. If so, the economy could settle in to an unemployment rate just over 4%. However, the direction of travel over the past year is still cause for some concern.

Private Surveys: Flashing Orange

In addition to the government surveys, we can look to monthly readings from a number of private sector reports. In particular,

• ?The employment components of the ISM surveys of purchasing managers were mixed in August, with the manufacturing report showing job losses and the (much larger) service sector showing gains.
• The August Conference Board Survey of Consumers was generally positive, with 32.8% of respondents saying jobs were “plentiful”, exactly twice as many as the 16.4% reporting that they were “hard to get”.
• The monthly jobs report from the National Federation of Independent Business was also generally positive, with a net 13% of firms planning to increase rather than cut employment over the next three months and a still very elevated 40% reporting job openings they could not fill.
• On the more downbeat side, layoff announcements jumped to 76,000 in August from a historically low 26,000 in July according to the outplacement firm, Challenger, Gray and Christmas.

Unemployment Claims: Green Again

Weekly unemployment claims provide a further timely perspective on the labor market.

Over the summer, they did seem to suggest some reason for concern, with a four-week moving average of initial claims climbing from 210,000 at the end of April to over 240,000 by the start of August. However, some of this appears to have been due to weather effects and seasonal plant closings in the auto industry. By the end of August, the four-week moving average had fallen back to 231,000, with a similar improvement in continuing claims. Overall, initial claims for unemployment benefits are lower than they have been more than 80% of the time this century, suggesting a generally tight and healthy labor market.

The Drivers and Impacts of Job Growth: Still Looking Good

A final and important perspective on the job market comes from looking at the rest of the economy. In our medium-term forecasting models, private sector non-farm employment is positively related to current real GDP growth as well as growth in the prior two quarters. When businesses experience rising demand, they attempt to hire more workers and are more reluctant to layoff existing employees. Following slow growth of 1.4% annualized in the first quarter, real GDP growth accelerated to 3.0% in the second. The Atlanta Fed’s GDPNow model is predicting 2.1% growth for the third quarter, largely in line with our own forecasts, which suggests that there should be plenty of business momentum motivating hiring in the months ahead. This perspective is further bolstered by strong year-over-year gains in second-quarter profits according to both government and private sector reports.

Finally, we can look at the consequences of employment growth, particularly in the form of consumer spending. Following annualized gains of 1.5% and 2.9% in the first and second quarters respectively, we are now tracking a 3.2% gain in real consumer spending for the third quarter. To be sure, many families are still struggling and the public mood remains sour. However, the roads, airports, restaurants and grocery stores are generally full and online spending continues to grow. There is no sign of an employment slump in the spending of American households.

Conclusion

Putting it all together, the Jobs Mosaic suggests an economy that is, for now, settling into a slower expansion rather than anything more sinister. It should be emphasized that slow expansion is a fairly natural condition for the economy. Every morning, millions of Americans wake up willing to work more hours, wanting to buy more stuff and generally striving to get ahead.

That being said, a slower-growing economy is also a more vulnerable one and the Federal Reserve needs to be careful in both their actions and their words. The right move from here would likely be to cut the federal funds rate by 25 basis points on September 18th and justify this move by saying that a healthy economic expansion, with inflation falling towards the Fed’s 2% goal, doesn’t need monetary restraint and that it will be gradually removed over the next year or two. The wrong thing to do would be to cut by 50 basis points and express recession concerns.

For investors, it will be important to watch both the evolving jobs mosaic and how the Fed reacts to it. However, it is more important that they consider whether the sharp market moves of the last two years or any changes in their own personal circumstances justify a rebalancing of portfolios. While we are not particularly concerned about the balance of current economic data, the economy and markets are always vulnerable to shocks, and long-term financial success depends as much on being able to weather what you don’t expect as to profit from what you do.

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