The monthly jobs report is one of the most important statistics for investors.
Yes, any single month doesn’t tell us much. Yes, the Labor Department’s methodology has some flaws, both major and minor, which I covered many times in my newsletter, Thoughts from the Frontline (subscribe here). But imperfect as it is, the jobs report is our best look at the economy’s pulse.
Today I’ll give you some quick thoughts on the just-issued November jobs report and why the Fed is about to make a huge policy error.
The Growth of Wages and Jobs Is in Deceleration
The jobs report for November was solid, with job growth above the recent average. But earnings were a disappointment, as we will see. Philippa Dunne’s summed up the report in a recent commentary:
Employers added 228,000 jobs in November, 221,000 of them in the private sector. Both are nicely above their averages over the last six months, 164,000 headline and 162,000 private. Almost all the major sectors and subsectors were positive. Mining and logging was up 7,000 (slightly above the average for the last year); construction, 24,000 (well above average, with specialty trades strong and civil/heavy down); manufacturing 31,000 (well above average, with almost all of it from durables); wholesale trade, 3,000 (slightly below average); retail, 19,000 (vs. an average loss of 2,000); transportation and warehousing, 11,000 (well above average); finance, 8,000 (weaker than average); professional and business services, 46,000 (right on its average, with temp firms particularly strong); education and health, 54,000 (well above average, with education, health care, and social assistance all participating); and leisure and hospitality, 14,000 (well below average). The only major down sector was information, off 4,000, slightly less negative than average. Government added 7,000, well above average, with local leading the way.
What’s not to like about this? The answer is that we really need to review the report in terms of the trend. And the trend in employment is deceleration. As Peter Boockvar explains,
Also, we must smooth out all the post storm disruptions. This gives us a 3-month average monthly job gain of 170k, a 6-month average of 178k, and a year-to-date average of 174k. These numbers compare with average job growth of 187k in 2016, 226k in 2015, and 250k in 2014. Again, the slowdown in job creation is a natural outgrowth of the stage of the economic cycle we are in where it gets more and more difficult finding the right supply of labor.
The growth in wages is also decelerating. I was recently talking with Lacy Hunt about the jobs report.
He noted that real wage growth for the year ending November 2015 was 2.8%, while for the year ending November 2016 it was just 1%. The savings rate is now the lowest in 10 years.
The velocity of money is still slowing, which means that businesses have to do everything they can to hold down costs… and one of those things is to rein in wages.
The Fed Relies on Unreliable Theories
And yet the Federal Reserve has a fetish for this thing called a Phillips curve—a theory that was debunked by Milton Friedman and other economists as having no empirical link to reality.
But since the Fed has no other model, they cling desperately to it, like a drowning man to a bit of driftwood.
Basically, the theory says that when employment is close to being as full as it is right now, wage inflation is right around the corner. According to the Phillips curve then, the FOMC needs to be tightening monetary policy.
Basically, the Federal Reserve looks at history and tries to make up models of future economic performance based on it. Even as everyone in the financial industry goes on intoning that past performance is not indicative of future results.
But all the Fed has is history, and they cling to it. My contention is that the near future is not going to look like the near or the distant past. And so we had better throw out our historical analogies and start thinking outside the box.
A Major Policy Error Is Looming on the Horizon
If the Fed is as data-dependent as they say they are, they should look at their data and see that there is no wage inflation.
There is a reason why there isn’t: The vast bulk of workers do not have pricing power.
The labor market has changed dramatically in the last 20 years, and every study I have read as I have researched the future of work suggests that employment is going to change even more drastically in the next 20 years.
If we have 20 million workers who presumably want to have jobs but suddenly find themselves without job opportunities because of automation and other forces, that is not an environment in which we are going to see wage inflation.
That is a situation in which workers will take whatever wages they can get. Think Greece.
Monetary growth is decelerating, too. The velocity of money continues to fall. Total consumer debt as a percentage of disposable income is the highest it has ever been – over 26%.
The savings rate has fallen to a 10-year low. Consumers are stretched, and there is just not the buying power—no matter how low interest rates are—to create the inflation that the Fed is so afraid of.
I could go on and on about the fragility of this economy, even though on the surface it seems to be the strongest it has been since the Great Recession.
Looking ahead, 2018 should be another year for growth. So I look around and ask, what could endanger that? I think the biggest risk is central bank policy error.
We are going into unknown territory. Beyond this point, there be dragons.
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