CPI Inflation Creeps Up

By Paul Gomme and Peter Rupert

The BLS announced that CPI inflation rose 0.4% from February to March or 4.6% on annual basis. On a year over basis the CPI increased 3.5%. Our preferred measured of inflation rose to 4.11% in March after increasing 3.85% in February and 3.06% in January.

The core CPI inflation (excluding food and energy) also rose 0.4%, 4.39% annualized. The trend measure of inflation increased from 4.06% to 4.17% on an annualized basis.

We know that the folks on the FOMC look to core PCE inflation, not (core) CPI inflation. However, the March PCE price won’t be released for a couple of weeks. Given the overlap in the goods covered by the two price indices, the CPI presumably provides some information for what to expect of the March PCE price index. While the two price indices move together at “long” horizons (annual or longer), at a monthly frequency the relationship is looser. In other words, seeing an increase in core CPI inflation of, say, 0.2 percentage points, does not necessarily mean that the core PCE inflation rate will similarly rise by 0.2 percentage points. With all of these qualifications in mind, the March CPI inflation numbers give us little confidence that March core PCE inflation will be down — much less that it’ll be near the FOMC’s stated 2% target. Considering that the FOMC will probably like to see more than a single month’s inflation at it’s target before lowering the Fed funds rate, we would not bet on lower interest rates any time soon — especially given the continued strength of the labor market and GDP.

March Employment Report

By Paul Gomme and Peter Rupert

The BLS announced that payroll employment increased 303,000 in March, another solid reading that will likely change the Fed’s stance concerning the timing of cuts in the Fed Funds rate. The private sector added 232,000.

The construction sector jumped up 39,000, the largest increase since May of 2022.

Average weekly hours of work rose from 34.3 to 34.4 leading to a 5.7% (annualized) increase in total hours of work.

The household survey also showed considerable strength with employment increasing 498,000. The labor force increase 469,000 leading to an increase in the labor force participation rate to 62.7 (was 62.5). The number of unemployed persons fell 29,000 and the unemployment rate fell from 3.86% to 3.83%.

On April 2 the BLS JOLTS data showed that job openings changed little in February, at 8.8 million and the rate of job openings remained at 5.3% for the third straight month.

February Employment Situation

By Paul Gomme and Peter Rupert

The establishment data from the BLS showed a 275,000 increase in payroll employment for February, outpacing the 230,000 average over the previous 12 months. The payroll data for January and December were revised down by a total of 167,000. The private sector added 223,000 new jobs, the largest gain since May of last year.

Temporary help services employment continues a steep decline after a sharp post-pandemic rise.

Average hours of work increased from 34.2 to 34.3. The increase, along with the 223,000 private employment increase led to a hefty increase in total hours of 5.6% at an annualized rate, also the largest increase since May of last year.

The establishment report, once again, beat “expectations;” the WSJ survey of economists was 198,000. Other than the downward revisions, mentioned above, another bit of negative news was a smallish increase in wage growth, from $34.52 to $34.57.

The household survey shows that the labor force increased 150,000, a drop in employment of 184,000 and an increase in the number of unemployed persons of 334,000. The labor force participation rate held steady at 62.5, the employment to population ratio decreased from 60.2 to 60.1 and the unemployment rate increased from 3.66 to 3.86. Remember that the unemployment rate is the number of unemployed relative to the labor force (the number employed plus the number unemployed). Consequently, the unemployment rate can go up if the number of unemployed rises holding fixed the labor force, or if the labor force shrinks holding the number unemployed unchanged. An increase in the unemployment rate is not necessarily a bad thing: it may reflect a strong labor market drawing “marginally attached” individuals from outside the labor force. Indeed, there was a 96,000 decline in those workers.

Earlier in the week, the BLS announced JOLTS (Job Openings and Labor Turnover Survey) data for January. There isn’t much to report here as the job openings changed little at 8.9 million, the number of hires and total separations were little changed at 5.7 million and 5.3 million, respectively.

As has been the case for the last couple of years, the number of job openings remains higher than the number of unemployed persons.

Also earlier in the week the BLS announced that productivity increased 3.2% in the 4th quarter with output rising 3.5% and hours of work rising 0.3%.

The bottom line is that the labor market continues its surprisingly (to some) strong performance, once again proving stronger than many had expected. This strength makes it difficult to justify any interest rate cuts soon, particularly given the recent inflation spike.

January PCE

By Paul Gomme and Peter Rupert

The BEA announced that the Personal Consumption Expenditure (PCE) price index rose 0.3 percent over the month, 4.22 percent on an annualized basis. While the monthly spike was high, the year over year number fell from 2.62 percent to 2.40 percent. Our preferred trend measure rose from 1.57 percent to 2.45 percent.

As we mentioned in the CPI post of February 14, given the relationship between changes in the CPI and PCE it was expected that the PCE would also likely rise. In terms of policy, the Fed tends to concentrate more on the core PCE index. The core measure also blipped up, the annualized monthly number came in at 5.10 percent for January after a 1.75 percent December number. Year over year the core measure fell slightly, from 2.94 percent to 2.85 percent. Our calculated trend inflation came in at 2.99 percent after a 1.94 percent December reading.

At least some news outlets have emphasized the decrease in the year-over-year PCE inflation rate, with the pop up in the monthly, annualized rate treated as an afterthought. As the saying goes, ”Those who forget their history are condemned to repeat it.” In 2021, monthly inflation started running well above the FOMC’s 2% target; it took at least half a year before the 12 month inflation rate reflected this increase. While one month doesn’t make a trend, the size of the increase makes it difficult to build a strong case for loosening monetary policy in the near term. We will be looking closely at the CPI report that comes out in a couple of weeks time.

Inflation Report

By Paul Gomme and Peter Rupert

The BLS announced the January inflation report on February 13, indicating that the CPI rose 3.73% in January on a seasonally adjusted annualized basis. This was much larger than December’s increase of 2.83%. As we have mentioned several times, the one month number is extremely volatile and therefore should not necessarily be a sign of trend inflation on the rise. Having said that, our preferred measure of trend inflation also increased slightly from 2.73% to 3.06%.

A large part of the increase came from the shelter component rising over 7% and is about 36% of a household’s expenditures. Energy components fell somewhat. Yet, core CPI inflation rose from 3.35% in December to 4.81% in January (monthly annualized rates). Our measure of trend core CPI inflation also rose, from 3.43% to 3.89%.

The only bright spot to the CPI report is that year-over-year inflation declined. However, as we learned a couple of years ago, this measure is very slow to respond to changes in trend.

What does the CPI report imply for policy? To start, the Fed’s 2% inflation target is for core PCE (personal consumption expenditures) inflation, not (core) CPI inflation. PCE data for January will not be released until February 29. While the year-over-year core PCE inflation rate for January may fall, based on higher trend CPI inflation, it seems likely that trend core PCE inflation will likewise rise. The Fed will probably want to see a steady decline in underlying inflation toward its target before lowering its interest rate. It seems unlikely that the Fed will be lowering rates soon.

January Employment Report and Other Releases

By Paul Gomme and Peter Rupert

The US economy once again fools forecasters. The BLS announced that payroll employment increased 353,000 in January, with 317,000 added to private payrolls…about twice the Dow Jones prediction. In addition, December employment was revised up 117,000 and November up 9,000. Overall, growth was pretty widespread as the diffusion index (percent of industries increasing employment plus one-half of those with unchanged employment) rose from 64.0% to 65.6%.

However, not all in the report was good news. Average hours worked plunged to 34.1 from 34.4. Outside of the pandemic months, the 34.1 reading was the lowest since coming out of the Great Recession. The drop in average hours in combination with the 317,000 lead to a 4.1% decline in total hours of work.

The unemployment rate dipped from 3.74% to 3.66%.

January 30: Jolts

The Job Openings and Labor Turnover Summary (JOLTS) for December was released on Tuesday. The number of job openings increased slightly from 8.925 million to 9.026 million. New hires increased to 5.621 million and separations declined to 5.365 million. Moreover, there are still about 3 million more job openings than unemployed job searchers.

The Beveridge Curve, plotting vacancy rates against unemployment rates, also shows a very strong labor market. As the vacancy rate has declined over the past year or so, the unemployment has barely moved. Consequently, the recent combinations of vacancies and unemployment have been moving down towards the post-Great Recession Beveridge curve.

January 31: Employment Cost Index

The employment cost index rose 3.5% in the third quarter of 2023 at a seasonally adjusted annual rate. The ECI growth rate has declined by 2 percentage points since Q1 of 2022.

Our trend measure of core PCE price index is sitting around 2%, meaning that the real ECI has risen about 1.5%.

February 1: Productivity and Costs

Productivity (real output per hour) increased 3.2% in Q4 at a seasonally adjusted annual rate. Output increased 3.7% while hours worked increased 0.4%.

Putting together the ECI and Productivity Numbers

One way to think through these numbers is that when worker costs grow faster than the revenue they bring in, profits (or capital returns) get squeezed. For the final quarter of 2023, nominal employee costs rose 3.5% while real labor productivity grew 3.2%. However, we also need to account for the effects of inflation: the ECI is a nominal variable expressed in current dollars while labor productivity is a real variable expressed in constant’ dollars. Using recent trend core PCE inflation (around 2%) then tells us that per worker revenue rose around 5.3% while employee costs `only’ grew 3.5%. In other words, the recent data implies that capital income (per worker) is actually growing.

Final thoughts

Taken together, the economy is still humming along and inflation has been falling. The decline in hours worked throws a little cold water on the reports, however. Those hoping for cuts in the Fed funds rate may have to wait.

December Employment

By Paul Gomme and Peter Rupert

The BLS announced that payroll employment increased 216,000 between November and December, the private sector contributed 164,000 to the total. Private service producing jobs accounted for 142,000 of the total, despite a 33,300 decline in temp workers and a 22,600 decline in transportation and warehousing jobs. October employment was revised down 45,000 and November down 26,000.

Average weekly hours fell from 34.4 to 34.3 and with the 142,000 increase in private sector employment, total hours of work fell 2.0%.

Average hourly earnings increased 0.4%, from $34.12 to $34.27. Earnings growth has been outpacing price growth over the past few months with the big declines in inflation even though wage growth has slowed somewhat.

A different way to visualize what’s happening to hourly earnings relative to prices is to plot both in logarithms. For current purposes, there are two useful facts regarding logarithms. First, a straight line represents a constant growth rate. In other words, if the Fed hit its target for core PCE inflation, then when core PCE is plotted in logarithms, we would see a straight line. As shown in the chart below, core PCE inflation may have been constant between 2011 and 2015, and again from 2016 to 2020. The second useful property of logarithms is that a constant gap between two lines means that they are growing at the same rate. Of particular interest is comparing the gap between average hourly earnings and a price level since this gap represents real average hourly earnings (that is, after accounting for changes in the price level). In the chart below, the gaps between average hourly earnings and either the CPI or PCE were roughly constant from 2011 to 2013 which means that earnings grew at about the same rate as prices. Perhaps more interesting is these gaps are changing. By way of example, from 2015 to just prior to the pandemic, the gaps between earnings and the price levels increased meaning that real earnings (the quantity of goods and services that can be purchased) increased. During the pandemic-induced recession, real earnings blipped up as nominal earnings rose and prices fell. However, starting in mid-2020, prices grew faster than earnings: the gap between the two shrank. Then, starting in 2022, the gaps between earnings and prices started opening up again. In other words, despite all the concern about inflation, real earnings grew. Indeed, as measured against the CPI, real earnings in late 2023 were close to what they were just prior to the pandemic; against the PCE, real earnings are higher.

The household survey paints a much different picture of the December employment situation. The labor force participation rate fell from 62.8 to 62.5. Employment declined by 683,000 leading to a 0.3 percentage point decline in the employment to population ratio. The number of unemployed rose 6,000 and the unemployment rate rose slightly from 3.72% to 3.74%.

There are well known trends in male and female labor force participation, as well as by race. The chart below digs deeper into the overall labor force participation rate by looking at finer groupings. At the start of the pandemic, labor force participation fell across all groups. Looking since mid-2020, participation by white men has leveled off at a lower level; for white women, it’s hard to tell whether there has been a downward level shift. The participation rate for Hispanic men has trended down since 2007. More recently, their participation rate seems to be leveling off, with no obvious level shift. On the other hand, the participation rates for Hispanic women, Black women and Black men are all back to their pre-COVID levels.

Data for JOLTS (Job Openings and Labor Turnover Survey) were released on January 3. JOLTS gives information concerning worker flows in and out of jobs. As shown below, since 2021 the layoff rate has been fairly stable; since 2022, the rates for openings, hires and quits have trended down. Indeed, the hiring and quit rates are close to their pre-pandemic values.

JOLTS data is also useful because it allows us to plot the Beveridge curve, the relationship between vacancies and unemployment. Indeed, the Beveridge curve is central to Diamond-Mortensen-Pissarides search model of unemployment. In essence the Beveridge Curve is behind the notion of a “tight” labor market: high vacancy rates and low unemployment tend to lead to a growing, or healthy economy. In the figure below, we have color-coded points corresponding to: the Great Recession, pre-Great Recession, post-Great Recession, and since the onset of the COVID pandemic. Visually, the pre-Great Recession and Great Recession periods lie on a relatively stable Beveridge Curve. However, there is a shift in the Beveridge Curve after the Great Recession, and the pandemic period does not fit either of the previous periods. However, over the past couple of years, the unemployment rate has remained fairly stable while the vacancy rate has fallen (see also above). It’s hard to tell where the US labor market will end up, but recent observations are getting close to the post-Great Recession Beveridge curve.

Overall, the reports show a continued strong labor market. The latest reports shouldn’t change Fed calculus.

November Employment Report

By Paul Gomme and Peter Rupert

The BLS reported that nonfarm payroll employment increased 199,000 in November, 150,000 of which came from the private sector. September employment numbers were revised down 34,000 with no revisions in October.

The service sector accounted for the bulk of the employment gains, increasing 121,000. Retail employment continues to suffer, falling for the fourth consecutive month. Health care and social assistance continues to show strong growth.

Average weekly hours increased from 34.3 to 34.4 leading to an increase in total private hours of work.

Average hourly earnings increased from $33.98 to $34.10 and has increased 4.0% year over year.

The household survey showed considerable strength with the labor force increasing 532,000, the participation rate increased to 62.8, the number employed rose 747,000 and the number unemployed fell 215,000, all leading to the unemployment rate falling from 3.88% to 3.74%.

Princeton economist and former FOMC vice-chair Alan Blinder defines a “soft landing” as one in which, following a tightening of monetary policy, inflation is either stabilized or reduced either without a recession, or a mild one. In a recent article, Blinder identifies 11 monetary policy tightenings in the US since 1965. He characterizes 3 as hard landings, and 2 further episodes ending with a hard landing that was not the Fed’s fault. That leaves 6 soft(ish) landings. The lessons are: first, soft landings are not that uncommon, representing about half of recent episodes; and second, lowering inflation need not end with a recession, although economic activity slows. Predicting a recession in advance is notoriously difficult. Looking at the recent data, what we can say is that the slowing employment growth in 2023 is consistent with a soft landing scenario. Until recently, the same could be said of GDP (output) growth; the 4.9% annual growth recorded in the 3rd quarter being the notable outlier. On the other hand, why land at all? Just keep flying!! Stay tuned.

October Employment and CPI

By Paul Gomme and Peter Rupert

The BLS announced that payroll employment increased by 150,000 according to the establishment survey. As we have argued about inflation, the one month change can be quite volatile. Looking at the three month average change, the picture shows a slowing trend for employment growth. The private sector added only 99,000, meaning the the government sector was responsible for about 1/3 of the overall gain. The payroll numbers for the previous 2 months were revised down 101,000; down 62,000 in August and 39,000 in September.

Private sector average weekly hours fell from 34.4 to 34.3. That, along with the jobs number drove total hours of work down by 2.6%, that largest decline in over a year.

Private sector average hourly earnings rose from $33.93 to $34.00, a 0.2% increase. Real wages continue to rise as the year over year wage increase is outpacing CPI inflation.

The household survey data paints a slightly darker picture. Employment fell 348,000 and the employment to population ratio fell from 60.4 to 60.2. The labor force declined 201,000. The number of people unemployed rose by 146,000. Those changes combined to increase the unemployment rate from 3.79% to 3.88%. The unemployment rate for men has increased faster than that for women since the beginning of 2023.

CPI

On an annualized basis, monthly CPI inflation plunged from 4.9% in September to 0.5% in October. As we have previously noted, monthly inflation is extremely volatile. One way to smooth out these fluctuations is to look at the annual inflation rate which fell from 3.7% (September) to 3.2% (October). However, the 12-month inflation rate sluggishly reflects changes in underlying inflation which is why we prefer to look at the three-month inflation rate. The good news is that this measure also dropped, from 4.9% to 4.4%.

Others prefer to look at core CPI inflation (removing the volatile food and energy components). The annualized monthly change in core CPI inflation is down, from 3.9% to 2.8%; the annual core CPI inflation rate dropped marginally, from 4.1% to 4.0%. However, the three-month annualized core CPI inflation rate rose, from 3.1% to 3.4%.

Remember that we at econsnapshot prefer the annualized three-month inflation rate over both the monthly inflation rate (too noisy) and the annual (12-month) inflation rate (too smooth and sluggish). Those who look to core inflation measures presumably think that it’s a better measure of trend inflation. But, what exactly is trend inflation? A minimal requirement is that over longer horizons, it tracks actual inflation, sort of like drawing a line through the monthly inflation numbers. One issue with core CPI inflation is that it often persistently deviates from overall CPI inflation.

Policy Outlook

The employment report did little to suggest either an increase or decrease in the Fed funds rate at the next meeting. Employment growth shows a slight decreasing trend over the last year or so. For the most part, CPI inflation for October was down relative to September; however, it is still well above the Fed’s stated 2% target. Keep in mind that the Fed’s target applies to core PCE inflation, not CPI inflation. At the end of the month, the BEA will release the October PCE price index data. However, there’s useful information to be gleaned from the CPI numbers. Since 1990, headline CPI inflation and core PCE inflation have outstripped core PCE inflation by roughly half a percentage point. This suggests that CPI inflation of around 2.5% is consistent with core PCE inflation of 2%. That CPI inflation is down in October suggests that PCE inflation will also be down. Given the current levels for CPI inflation, it seems doubtful PCE inflation will be close to the Fed’s target. The case for further tightening of monetary policy is that inflation remains stubbornly above target. The case against lies in Milton Friedman’s observation that the effects of monetary policy operate with long and variable lags — suggesting that the Fed should wait to see whether they have already built in sufficient tightening. Only time will tell whether Jerome Powell will manage the elusive soft landing.

Q3 GDP

By Paul Gomme and Peter Rupert

The BEA announced that real GDP for 2023Q3 rose 4.9% on an annualized basis, according to the advance estimate. This was the highest reading since the pandemic-related data in 2021Q4. Economists surveyed by Dow Jones expected 4.7%. Consumers continued to spend: real personal consumption expenditures increased 4.0% with consumption of durable goods increasing 7.6%.

Real domestic private investment rose 8.4%. Residential investment rose 3.9% after falling for 9 straight quarters.

Real government consumption spending continued to rise, with Q3 increasing 4.6%, the fifth consecutive quarter of increases after five consecutive quarters of decline.

One way to parse GDP growth is to compute the contributions made by its constituent parts. For example, in 2023Q3, real investment rose 8.4% on an annualized basis, far higher than GDP (4.9%). The contribution of the growth in investment is computed by taking its growth rate and weighting (multiplying) by investment’s share of output. The result is that investment contributed 1.5 percentage points to the 4.9% growth in output. The remaining major components are summarized in the figure below. The largest contributions to the headline 4.9% output growth were consumption at 2.8 percentage points, and investment, 1.5 percentage points.

The figure above can also be used to dissect the increase in GDP growth, from 2.1% in Q2 to 4.9% in Q3. By far, the largest contributor to this 2.8 percentage point increase in output growth was consumption at 2.2 (= 2.8 – 0.6) percentage points. Exports also made a sizable contribution, 1.8 (= 0.7 -(-1.1)) points, which was more than offset by that of imports, -2.1 (= -0.9 – 1.2) points. The contributions of investment (0.6 points) and government (0.2 points) were more modest. It is of interest to note that while some in the media talk about the decline in consumer confidence surveys, consumers were the largest contributors to the Q3 growth.

The personal consumption expenditure (PCE) price index climbed to 2.9%, up from 2.5% in Q2, the lowest readings since 2020Q4. In a sense, this uptick in inflation as measured by the PCE price index is old news: this series is also reported monthly, and our recent post on this index already noted that this measure of inflation, measured at the three month horizon, has been moving up and away from the Fed’s 2% inflation target.

Bottom Line

GDP growth was broadbased and the economy continues to defy the doom crowd. PCE inflation has moderated of late while consumption and investment show considerable strength. Will we enter a recession? You bet, see the graph below. When? Who knows…no one has been able to consistently forecast turning points.

The data remain unconvinced that we are currently in recession territory.