After the Fed’s latest interest hike of 25 basis points last week, its chairman, Jerome Powell, delivered remarks this week (2/7) elaborating on the central bank’s views. Between these two events, data pointing to a robust labor market had been released the previous Friday. At the Economic Club of Washington, Chairman Powell stated on Tuesday that interest rates might need to be raised beyond current market expectations to bring down inflation, which would be harder to reduce precisely because of the currently strong labor market.
It is true that, at the same time that inflation has come down amid higher interest rates, the labor market has remained surprisingly strong. While inflation decelerating is positive news to the markets, the resiliency of the labor market is not as welcome. The former points to lower future rates, while the latter appears to give the Fed ample room to jack up rates more freely. Moreover, strong growth and employment data signal that the central bank will take longer to cut rates (which is expected either after a “soft landing” or a recession).
While big tech companies have made the news after announcing massive layoffs, jobs continue to be created at a surprising pace. Of course, a more nuanced analysis would show that even job cuts within many tech firms are not as bad as they seem: many over-hired during the pandemic. We should perhaps look at net hiring since 2020, for example. Additionally, many have seen their stocks take a hit, so they need to show investors that they are worried about the bottom line.
In the following four charts, we summarize why the labor market is considered to be strong nowadays—or “tight”, as it is sometimes referred to. Much higher than expected job creation, a very low unemployment rate, a number of jobless claims that remains relatively small, a rate of participation in the workforce that has slightly increased, and higher productivity are the factors we have chosen to highlight.
Job cuts
According to the latest Challenger Job Cuts Report, employers in the U.S. announced 102,943 layoffs in January, more than double the 43,651 in December, and more than five times the 19,064 of January of 2022. In fact, the recent number for January was the highest since September of 2020. The overall number for 2022 had already increased 13% from the 2021 number (363,824 and 321,970, respectively).
Of all job cuts, 41% were in technology, aligning with layoff announcements by major firms in that sector. The 41,829 job losses are 158% higher than those announced the previous month.
Although the market would have normally received the news of more job losses as a sign of less aggressive future rate increases, the number of jobs created was more than enough to offset these losses, changing the picture completely.
Unemployment rate
Last Friday (2/3), the U.S. Department of Labor's Bureau of Labor Statistics (BLS) released its monthly Jobs Report. The unemployment rate was expected to rise from 3.5% to 3.6%, but instead it dropped to 3.4%. The rate had not been that low since 1969.
The non-farm payroll report for January beat even the most optimistic forecasts. The market expected a gain of 185,000 jobs, a decline relative to the 223,000 reported for December. But not only was the latter number revised higher to 260,000, but the January read came at a surprisingly high 517,000. The range of expectations went from a low of 150,000 to a high of 260,000, so the actual number came at almost double the upper bound of market expectations.
Leisure and hospitality led the way, adding 128,000 jobs. The average had been 89,000 jobs per month in 2022. The private sector added 443,000 jobs, much more than the expected 170,000.
Regarding jobless claims, the number reported yesterday (2/9) climbed from 183,000 last week to 196,000. This figure is still very low: it is only 7% more than last week’s, which had marked a nine-month low. The number of people already collecting unemployment benefits was estimated at 1.69 million for the week ending January 28th (latest data). The number has been increasing slowly, in a sign that it may be taking unemployed people more time to find new employment. We expect jobless claims to continue creeping up as higher rates further slow down the U.S. economy. However, we do not expect unemployment to spike abruptly.
Labor-force participation rate
Seasonally adjusted participation in the workforce picked up from 62.3% in December to 62.4% in January. So while more people entered the labor force, the number of jobs created more than completely offset it, bringing the unemployment rate down.
With 5.7 million people unemployed in January, and 11 million job openings reported at the end of December (Job Openings and Labor Turnover report by the BLS), there are still close to two jobs open per unemployed person in the United States.
Labor costs and productivity
Finally, the BLS released its preliminary report on productivity and costs for the fourth quarter of 2022. Labor productivity in the non-farm business sector rose by 3% in the fourth quarter of last year. This beat market expectations of 2.4%. Output increased 3.5% and hours worked rose by 0.5%. All figures are seasonally adjusted. When compared to the same quarter of 2021, the picture changes: labor productivity went down 1.5%. This was due to output growth (+0.8%) being outpaced by the increase in hours worked (+2.3%).
Unit labor costs—defined as the ratio of hourly compensation to labor productivity—increased 1.1% in the fourth quarter of 2022, lower than the 1.5% expected by the market. Moreover, across the entire year, unit labor costs rose by 4.5%. The BLS also reported that real hourly compensation increased 1% in Q4, yet that was not enough to prevent a drop of 3.8% in 2022. Hence, at least for Q4, we see more hours worked compensated at a higher real rate, another sign pointing to a strong labor market. Overall, however, unit labor costs are at least increasing more slowly than expected, while productivity is increasing faster. This contributes to the goal of taming inflation.
Our view
Summing up, even if the Fed continues tightening monetary policy, it could very well achieve its goal of bringing down the inflation rate without inflicting too much pain on workers (even if the 2-percent Fed target is unlikely to be reached any time soon). The healthy labor market portrayed by recent data makes it possible for the Fed to continue raising rates without taking the unemployment rate beyond, say, 4.5%, which most analysts would agree would constitute a successful soft landing: inflation reduction without high unemployment.
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