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.
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.
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.
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.
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.
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.
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.
The BLS announced that total nonfarm payroll employment increased 336,000 of which 263,000 came from the private sector as the government sector added 73,000 more workers. In addition, revisions to the two previous months increased employment by another 119,000.
This was a very strong jobs report that seems to have taken those prone to making predictions by surprise:
Economists surveyed by Dow Jones expect that September will show a 170,000 net gain in nonfarm payrolls.
Evidently, forecasting the US economy, or any economy for that matter, is not a simple task.
Total nonfarm employment has rebounded strongly from the depths of the pandemic and is now close to where it would have been had it stayed on the trend line post Great Recession.
The service sector added the bulk of jobs, up 234,000; 96,000 coming from Leisure and Hospitality that was obviously slammed during the pandemic and is still below its pre-pandemic level by 184,000 employees.
Average weekly hours remained at 34.4 and so the increase in total hours of work came solely from the new employees. Average hourly earnings increased from $33.81 to $33.88.
The household survey was remarkable as there was very little movement in any measure. Employment increased by only 86,000, there was no change in the employment to population ratio (60.4) or in the unemployment rate (3.8%).
Looking forward, it appears that what policy makers consider “inflationary pressures” are still hanging around given the strength of the labor market and the overall economy pretty much running on all cylinders. Although many of the price numbers have declined they still remain above the Fed’s 2% target indicating that more weight is likely being put on another rate hike than a continued pause.
It was a pretty busy week for incoming data. Bottom line: The economy continues to reveal strong economic growth and maybe we have not “landed” at all, we are still flying.
Employment Situation
The BLS establishment survey showed that employment rose 187,000 in August. Although the gain was higher than in the previous two months, the June employment numbers were revised down by 80,000 and July down 30,000…employment was 110,000 less than previously reported entering August. The gain was less than the 271,000 average gain over the previous 12 months. Private employment gains led the charge at 179,000 with the service sector adding 143,000. The biggest gain came in health care, up 97,000.
Average hours of work increased from 34.3 to 34.4. That, combined with the 179,000 increase in private employment led to a large increase in total hours of work.
The household survey showed an increase in the unemployment rate from 3.50% to 3.79%. The number of people unemployed did rise by 514,000, however, there was also a 736,000 increase in the labor force. The labor force participation rate has been steadily increasing but is still below the pre-pandemic level. Basically, once the effects of the pandemic have receded there has not been much of a change in the reasons for showing up as unemployed.
Since the unemployment rate is the ratio of the number of people unemployed divided by the labor force (the number of people employed and unemployed), the unemployment rate can increase either because the numerator (the number unemployed) increased, or because the denominator (the labor force) decreased. Which one accounts for the 0.29 percentage point increase in the unemployment rate in August? According to the Household Survey, the number of unemployed rose by 514 thousand in August while employment rose 222 thousand. In other words, the labor force increased by 736 thousand. For August, the increase in the unemployment rate came about due to an increase in the number of individuals unemployed.
The figure below digs deeper into the labor market flows. The arrows reflect flows of people between employment (E), unemployment (U), and not-in-the-labor force (N). The change in employment is obtained by adding the numbers with arrows pointing into E, and subtracting the flows associated with arrows out of E: a net increase in employment of 146 thousand. This number is different from the 222 thousand obtained directly from the employment data from the Household Survey. The reason being that there are some additional inflows and outflows found in this table that have to do with adjustments to population, teenagers turning 16, etc. We can similarly compute the change in the number of unemployed by looking at the flows in and out of U: an increase of 512 thousand (rather closer to the actual change of 514 thousand obtained from the number unemployed with the adjustments). Relative to the flows in and out of unemployment, 512 thousand is not a huge number: the total flows (regardless of sign) sum to 6,180 thousand, and so 512 thousand is 8.3% of the total flows.
The charts below show that the number unemployed rose by 99 thousand due to an increased number of people out of the labor force moving into unemployment, by 75 thousand owing to a decrease in those transiting between unemployment and out of the labor force, by 175 thousand by virtue of more employed people becoming unemployed, and by 281 thousand as a result of fewer unemployed shifting into employment.
Job Openings and Labor Turnover Survey
The JOLTS data came out 8/29 and showed the number of job openings declined to 8.8 million in July from 9.2 million and 11.4 million in July of 2022. Having said that, the difference between the number of people unemployed and the available jobs are still much higher than any time pre-pandemic. The quit rate has come down somewhat, but, like the openings rate, still higher than its pre-pandemic level. One interpretation of the quit rate is that quitting and moving to better jobs helps one climb the job and income ladder. Said differently, quit rates fall during recessions as there are fewer opportunities to move. Layoffs remain very subdued as well. The rate of job hiring as fallen considerably over the past year or so and now back to the average rate since 2014 (excluding the pandemic).
Output, Income and Consumption
The second estimate for Q2 real GDP was released by the BEA on August 30, and showed a downward revision from 2.4% to 2.1%. Consumption was revised up from 1.6% to 1.7%.
While the downward revision in Q2 real GDP was not small, the monthly consumption data released on 8/30 by the BEA showed a large increase in consumption for July. Consumption expenditures increased 0.8% in current dollars (9.9% annualized) and 0.6% in chained 2012 dollars, the largest increase since January. The personal savings rate as a fraction of disposable income declined by nearly a full percentage point, from 4.3% to 3.5%
Takeaways
The data describe a growing economy with little, if any, signs of braking. Looking at the headline numbers and article titles, such as this in the 9/1 WSJ: “Job Gains Eased in Summer Months; Unemployment Increased in August,” might suggest a faltering labor market. However, a deeper dive into the underlying data suggests no such thing.
The BLS announced that the all items CPI increased 0.2% over the month and 3.2% year over year. It is interesting to observe the various measures of “inflation” that appear in the media. For example, Bloomberg highlights the monthly change:
CNBC highlights the year over year change:
A New York Times columnist spotlights food prices:
Of course there are many others including the median CPI, trimmed mean CPI and the new “supercore” measure. What all of these analysts are trying to decipher is whether “inflation” has slowed enough to warrant a pause in the FED’s tightening spree. While there are many ways to parse the underlying data, such as the cost of eggs, milk and chicken, the preferred measure of the Econsnapshot is to look at the CPI over a 3-month horizon. Month to month the data is very volatile (hence the notion of core CPI that removes two very volatile components, food and energy) and year-over-year is very slow moving. As seen in the graph below, the annualized 3 month inflation is a bit under the FED’s 2.0% target at 1.9%. The year-over-year ticked up slightly.
The BEA recently released the July PPI (Producer Price Index). While the annualized one month change popped up from -0.5% to 3.6%, this series is very noisy; the annualized 3-month change came in at -0.2% for July, up from -0.6% in June.
In our May post on prices, we noted that the BEA points to the PPI for Consumption Expenditures as being closest in coverage to the CPI. Over the past three months, the annualized growth in this index was -6.8% indicating that by this measure, consumer prices are falling. Looking back a year, the index grew at a rate of -2.7%.
However, as we noted in May, there does not appear to be a very tight relationship between the growth of either of the PPI measures and either the CPI or core CPI.
Both the CPI and PPI measures point to a moderation in prices. Given that, it seems likely that the Fed will take a pause and let the economy speak a little more before a move in either direction.
