Making Sense of the Latest Complicated Employment Data

Brent Schutte, CFA, is chief investment officer of the Northwestern Mutual Wealth Management Company.

Regular readers of our weekly commentaries know that we advocate that investors view the steady stream of economic data out each week in the context of how it fits together and to evaluate it to determine whether it is consistent with current trends, suggests a change in direction, or may simply represents a statistical noise. This approach can be particularly useful during times of conflicting or even confusing data, as it provides a baseline for interpretation.

We highlight our belief in this approach in light of data out last week that supports the soft-landing scenario many investors have been gravitating toward in recent weeks. While there was a slew of employment data out last week that we will discuss, two reports jump out as being supportive of the soft-landing narrative. The latest figures from the Bureau of Labor Statistics (BLS) showed that the labor participation rate in November increased 0.1 percent to 168.26 million, up 532,000 workers from October. Additionally, another report from the BLS showed that worker productivity jumped by 5.2 percent on an annualized basis during the third quarter. On a year-over-year basis, productivity is now up 2.4 percent after showing decline in 2022 and early 2023.

As we’ve noted in the past, we believe the most likely way the Federal Reserve can achieve its goal of a soft landing while still bringing inflation down to its 2 percent target is through an increase in the number of workers available, a rise in productivity, or some combination of the two. That’s because more workers would ease labor shortages and keep wage growth in check as employers would no longer be forced to try to lure workers from other jobs through higher pay. Similarly, an increase in productivity could offset the inflationary pressures from elevated wage gains. With that in mind it’s worth asking if the latest numbers from the BLS should be interpreted as a sign that a soft landing is on the horizon. For that, we return to the importance of looking at data in the context of other measures and unfolding trends.

While the increase in the number of people joining the workforce is welcomed, a deeper dive into the details of the labor force participation rate suggests that a sustained influx of workers to relieve strains in the employment picture is unlikely. The current participation rate of 62.8 percent remains below the level of 63.3 percent in the months leading up to the arrival of COVID; however, the participation rate for prime-age workers (25–54-year-olds) is 83.3 percent, above pre-COVID levels of 83.1 percent. Except for a few brief periods, the participation rate among the prime-age population hasn’t been sustainably higher since 1996–2002. The likely explanation for the modestly lower overall participation rate is that many employees who were approaching retirement or retirement age at the start of COVID left the workforce and are unlikely to return. Simply put, we don’t believe there are enough people on the sidelines that will be brought back to the workforce to create any sustainable meaningful slack.

Similarly, we are skeptical that productivity gains can persist at their recent pace. Consider that from 2011 to 2020, productivity gains were lackluster. To sustainably break that trend, we believe technological advancements would need to lead to significant gains in efficiency, much as it did when productivity improved during the late 1990s and early 2000s. While artificial intelligence shows promise in driving future productivity growth, we do not believe it has advanced to the point that it is already resulting in meaningful gains across the economy. Instead, we view the gains in productivity as a welcomed improvement but likely a distortion resulting from the previously mentioned declines in productivity in 2022 and earlier this year.

While it is too early to tell if the recent positive developments on the labor front are the beginnings of a trend or simply statistical noise, other data out last week consistent with longer-term trends suggest challenges to the Fed’s goal of easing wage pressures and inflation.

The nonfarm payroll report from the BLS showed average hourly earnings for production and non-supervisory employees rose by 0.4 percent from November and are up 4.3 percent year over year, down 0.1 percent from October’s year-over-year pace. While the pace of wage growth has slowed over the past few months and is well below recent highs, we believe that it is still too high for the Fed to achieve its goal of 2 percent annual inflation. The stubborn pace of elevated wage gains comes at a time when growth of private payrolls is slowing. To be sure, the nonfarm payroll gains announced late last week showed a larger than expected 199,000 positions added. However, of those positions, 49,000 were for government jobs. Importantly, the breadth of hiring was narrow, with just 54.6 percent of industries reporting gains in the number of employees, up modestly from October’s level of 52.2 percent. For further context, the breadth of hiring hit a post-COVID peak of 85 percent in February 2022 and was at 65 percent to start this year. While the current reading isn’t a flashing red light, as breadth approaches 50 percent, it becomes harder to maintain job growth.

BLS data also showed temporary help services—a leading indicator of the labor market—fell again, coming in at 2.915 million. This is a timely measure because employers typically let go of temporary workers before cutting permanent staff. The latest decline puts the year-over-year decrease in temporary workers at 6 percent, a level consistent with the previous three recessions since the 1990s.

The point of this in-depth look at the employment picture isn’t to suggest that the economy is on the cusp of a sharp contraction. Instead, we believe there are plenty of indicators, ranging from jobs data to the persistent slowdown in manufacturing, that make us skeptical that a soft landing is the most likely outcome. While the Fed always targets a soft landing when using monetary policy to slow a too hot economy, its track record in succeeding is not encouraging. We believe still elevated wage growth will cause the Fed to err on the side of over-constraining the economy as it seeks to ensure that inflation returns sustainably back to 2 percent. This approach, we believe, will lead to a rise in layoffs and a corresponding mild, short recession.

Wall Street wrap

While the details of the employment data discussed above suggest an economic contraction is likely on the horizon, other reports offered mixed news and point to why an eventual recession may be mild.

Growth in services sector steadies: The latest data from the Institute for Supply Management (ISM) shows the services side of the economy showed a moderate uptick in the pace of expansion, with November’s headline reading for the sector coming in at 52.7, up 0.9 from the prior month’s reading of 51.8 (readings above 50 signal expansion). New orders held steady at 55.5, unchanged from October. While new orders remain in expansion territory, inventory sentiment continued to climb, suggesting that levels are becoming elevated: The latest reading jumped to 62.2, up 7.8 points from October’s 54.4. The latest results from the survey showed the employment index was little changed at 50.7, up 0.5 from October’s reading of 50.2. The pace of price increases slowed modestly but remained elevated at 58.3, down 0.3 from the prior month. As it relates to labor costs and inflation, respondents remain wary. In a statement accompanying the data, Anthony Nieves, chair of the ISM Services Business Survey Committee, noted, “There is continuing concern about inflation, interest rates and geopolitical events. Rising labor costs and labor constraints remain employment-related challenges.”

Historically, the current level of expansion in the services side of the economy has been consistent with 1 percent growth in GDP. When taken alongside the trend of contractionary readings on the manufacturing side, it is apparent the pace of the economy is slowing.

Consumers feeling much more optimistic: Consumer sentiment jumped to 69.4 in December, up 8.1 points from November’s final reading of 61.3, according to the latest consumer sentiment survey released by the University of Michigan. The spike in optimism coincided with a significant decline in inflation expectations, with respondents expecting prices to rise 3.1 percent in the coming year, well off the prior month’s reading of 4.5 percent. The current reading marks the lowest level since March 2021 and is slightly above the 2.3–3.0 percent range seen during the two years preceding the onset of COVID. Long-term inflation expectations also declined, coming in at 2.8 percent, down 0.4 percent from November and matching the second lowest level since July 2021. It’s worth noting that last month’s reading of long-term inflation expectations of 3.2 percent was the highest since 1996. The fact that both October’s and November’s readings were on either side of the range of 2.9–3.1 percent that has persisted since 2021 highlights how recent monthly data has been volatile. Long-term expectations, however, remain higher than the 2.2 to 2.6 percent range recorded during the two years before COVID.

Continuing jobless claims decrease: Weekly jobless claims numbered 220,000, an increase of 1,000 from last week’s upwardly revised figure. The four-week rolling average of new jobless claims came in at 220,750. Continuing claims (those people remaining on unemployment benefits) were at 1.86 million, a decrease of 64,000 from the previous week. However, the four-week moving average for continuing claims rose to 1.87 million, the highest level since December 2021. The trend in continuing claims over the past several months is a timely market indicator that suggests that the labor market is weakening and those who have lost their jobs are finding it harder to find new employment.

Job openings decline but outpace available workers: The BLS Job Openings and Labor Turnover Survey released earlier last week showed the number of job openings declined by 617,000 in October, resulting in 8.7 million unfilled positions, well below consensus Wall Street estimates. The latest figure translates to 1.3 jobs for every available worker. While the latest reading remains elevated, it is well off the ratio of 2:1 seen in 2022 and is now at the lowest level since 2021.

The week ahead

Monday: The National Federation of Independent Business Small Business Optimism Index readings for November will be out before the opening bell. Recent readings from this survey show that price pressures and the state of the labor market are top concerns among small businesses. We will be watching for any signs that suggest these challenges are easing.

Tuesday: The Consumer Price Index report from the BLS will be out before market open. Data continues to show progress in the disinflationary process; however, progress has slowed in recent months, and measures of core inflation have shown some price pressures taking on new resiliency. We will be dissecting the data to see if these areas of resistance are showing signs of persisting.

We’ll get the release of the U.S. Treasury Federal Budget Debt Summary for November. In light of Moody’s decision to downgrade U.S. debt to a negative outlook due to large fiscal deficits and a decline in debt affordability, this is something we will continue to monitor.

Wednesday: The focus for the day will be on the Federal Reserve as it releases its statement following its monthly meeting. We expect the Fed will hold rates steady, and we will be listening for indications of whether the Fed views inflation or a slowing economy as a greater risk. We will also be listening to comments on the current state of the employment picture and wages.

The latest readings from the BLS on its Producer Prices Index will offer a front-line view of changes in costs for buyers of finished goods. It can provide insights into the direction of input costs faced by business and can indicate how prices may move at the consumer level in the future.

Thursday: Initial and continuing jobless claims will be announced before the market opens. Initial filings were up again, and the four-week rolling average of continuing claims reached a two-year high. We will continue to monitor this report for sustained signs of changes in the strength of the employment picture.

 The U.S. Census Bureau will release the latest numbers on retail sales for November before the opening bell. Last month’s data showed consumers pulled back sharply on their spending. We will be watching to see if the pullback was an anomaly or if more conservative spending habits are beginning to take root.

Friday: The Empire State Manufacturing Index, released before the opening bell, will offer a look at the health of manufacturing and general business conditions in the influential New York state region.

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