U.S. Economic Snapshot

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.

On January 25, the BEA released its Advance Estimate for 2024Q4 GDP. The key headline number: GDP grew at an annualized rate of 3.3% in the fourth quarter, down from 4.9% in the third quarter. The recent number, though down from the fourth quarter, was the largest since the first quarter of 2022. Moreover, surveyed economists from the Wall Street Journal forecast 2% growth.

A useful way to think about this drop in output growth is in terms of the contributions of the major components of GDP. These contributions are the growth of a component multiplied by its share of GDP. The 1.6 percentage point decline in GDP growth is chiefly due to investment (contributing 1.4 percentage points, that is, falling from 1.8 to 0.4) with lesser contributions due to government spending (0.4 points) and consumption (0.2 points). Offsetting contributions were recorded by imports (-0.3 points) and exports (-0.1 points).

The quarterly personal consumption expenditures price index (PCE) fell to 1.7%, continuing an impressive decline starting in Q3 of 2022.

The BEA reports that the PCE price index increased 0.2% in December, up from -0.1% in November. At annual rates, these work out to 2.0% (December) and -0.8% (November). Our measure of trend PCE inflation rose, at an annual rate, from 1.4% in November to 1.6% in December. The earlier CPI report foreshadowed these increases. On a year-over-year basis, PCE inflation was essentially unchanged between November and December at 2.6%.

Our measure of trend core PCE inflation was up slightly, from an annualized 1.9% (November) to 2.0% (December). On a monthly basis, core PCE inflation shot up from 0.8% to 2.1% while the year-over-year rate fell from 3.2% to 2.9%. All in all, core PCE inflation looks to be settling into the Fed’s target of 2.0%. It will simply take a few months for the year-over-year rate to catch up with recent developments.

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.

Bottom line: core PCE (Personal Consumption Expenditure) inflation is down. The monthly annualized inflation rate fell from 1.8% in October to 0.7% in November; the year-over-year rate fell from 3.4% to 3.2%; and our preferred three month annualized rate fell from 2.3% to 2.2%. Ignoring the very noisy monthly rate, these declines are in keeping with our “prediction” of small changes in core PCE inflation based on the earlier CPI (Consumer Price Index) report for November.

Looking at overall PCE price inflation, the three month annualized rate plunged from 3.1% in October to 1.4% in November; the year-over-year rate fall was more modest, from 2.9% to 2.6%. These declines are in line with those of the earlier CPI report.

Given the continued decline in almost all measures of inflation it seems that the Fed will be looking closely at the “real” side of the economy. In fact, the recent revision of GDP by the BEA showed that the third (and final) estimate came in at 4.9%, down from 5.2% in the second estimate. According to the BEA the downward revision primarily reflected a decline in consumer spending, from 3.6% to 3.1%.

In its most recent announcement, the Fed noted,

Recent indicators suggest that growth of economic activity has slowed from its strong pace in the third quarter. Job gains have moderated since earlier in the year but remain strong, and the unemployment rate has remained low. Inflation has eased over the past year but remains elevated.

The latest revision to the third quarter tells us that the third quarter wasn’t quite as strong as previously reported. The Fed puts a lot of resources into nowcasting the US economy, so FOMC’s statement about slowing growth in the fourth quarter is probably a good read on the economy. The downward revision in the third quarter suggests that the fourth quarter may be even weaker than the Fed thought. With core PCE inflation edging closer to the Fed’s 2% target, and a weaker real side to the US economy, further hikes in the Fed funds rate seem unlikely.

According to the latest Bureau of Labor Statistics release, CPI (Consumer Price Index) inflation fell between October and November. While the one month annualized rate rose from 0.5% to 1.2%, the three month rate plunged from 4.4% to 2.2% and the 12 month rate was down marginally, from 3.2% to 3.1%.

Core CPI inflation was unchanged at the three month (3.4%) and 12 month (4%) horizons; the one month rate rose from 2.8% to 3.5%.

The FOMC (Federal Open Market Committee) focuses on inflation as measured by the core PCE deflator. However, November data for that measure of prices will not be released for two weeks. The scatter plot below shows that there’s a positive correlation between 3-month core CPI inflation and 3-month core PCE inflation. Given the marginal declines in 3-month and 12-month core CPI inflation, our best guess is that the corresponding core PCE inflation measures will also fall slightly. With the October 3-month core PCE inflation rate having come in at 2.4%, prospects look promising for core PCE inflation to settle in near the Fed’s 2% target.

The Federal Reserve held the policy rate steady and the median projections pointed to three rate cuts in 2024 and more the next few years, ending with: 4.6% in 2024, 3.6% in 2025 and 2.9% in 2026. The financial markets went bonkers: Dow up 500 points crossing the 37,000 mark to set a record.

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.