There is much trepidation. The US employment report is at hand. There is great uncertainty as market participants realize that even state of the art forecasting techniques have a general weak ability to anticipate the marginal change between the large number of people who get jobs every month and the almost as large number of people who lose their jobs every month.
Yet, we can be fairly of certain of two things. First, due to the unusual winter, a weak report will be generally played down by many, if not most economists, including those in policy positions. Second, and what follows from this, is that almost regardless of the report, the trajectory of Fed policy remains intact. That means the Fed continues to taper.
At the same time, interpolating from the Fed funds futures and Eurodollar futures strips, the Fed is not expected to hike the Fed funds rate until some time in H2 15. Fed funds are not expected to be above 1.0% until toward mid-2016. The employment data is unlikely to change these expectations.
To be sure, there are reasons to expect a soft report. Weekly initial jobless claims rose a little. The employment component of the manufacturing ISM was unchanged at 52.3, in the service PMI, which accounts for nearly 90% of the economy saw a the largest drop in 4 years to 47.5. The ADP employment report was also below expectations at 139k (consensus was for 155k). With its recent track record of being above the initial BLS estimate, the weakness in the ADP report led some economists to revise down their own estimates.
While some recent data, like durable goods orders, new home sales, and the manufacturing ISM were above expectations, much data, including the service ISM and regional Fed surveys are coming in below consensus forecasts. There is still some risk that economists’ forecast are still not appreciating the slowdown in the US growth here in Q1.
That said, we expect two things to happen. First, economists will likely use the employment report to adjust their broader economic forecasts. Second, we expect to see generally better economic data as the weather effect is reduced. While the underlying trend in the US economy is not the nearly 3% average seen in H2 13, it is also not the 1.5% or so pace currently being experienced
There are downside risks to the unemployment rate. This stems from the refusal of Congress to renew emergency unemployment benefits. This directly impacts some 1.7 mln Americans. It is possible that, statistically, they are absorbed by the huge churning of labor market. It is also possible that some who have been unemployed for a long period of time may leave the labor market. If the unemployment rate falls, we need to look at the participation rate. In Q4 13 and in January, the participation rate seems to have found at least a temporary bottom and has been chopping between 62.8% and 63.0%.
It is well appreciated that the participation rate has fallen in the United States. There have been all sorts hypotheses proposed to why this has happened. Some partisans want to blame one Administration or another. The fact is that the participation rate peaked at 67.3% in 2000 and fell until 2004 before generally moving sideways until 2008, which of course will be remembered not just because of the election of America’s first African American President, but also because of the demise of both Bear Stearns and Lehman and the sharp economic downturn and financial crisis.
When most economists talk about the decline in the participation rate they are often simply referring to this recent development. Since it corresponds to the recession, some economists, including at the Federal Reserve, think that it is a cyclical phenomenon. And indeed there is a role to play by the cyclical variables in explaining the decline in the participation rate. However, there also seems to be another force at work. It is not the prescription benefit under George W Bush. It was not the Affordable Care Act under Obama. Rather it was the procreation proclivity of the earlier generation and the baby boom. Simply put, on top of those cyclical factors, is a demographic change. Those baby boomers are retiring.
Consider this graph, posted by Matt Boesler at Business Insider.
It is drawn from research by the Atlanta Federal Reserve
. Of the 12.7 mln people who have left the labor force since 2007, retirement accounted for a 43%. That is the single largest group of people leave the labor market.
Some fraction of those leaving the labor force for school is likely cyclical and in a rapidly growing economy some would opt for SVP over MBA. Discouraged workers must also be generally thought of as cyclical event. Together these two groups account for a little less than a third of the number of people who left the labor force.
About 23% of the decline in the work force is due to those who are disabled. The number of Americans that are disabled and left labor force because of it has doubled from 23 per 1000 workers in 1980 to 47 in 2011. America’s population is aging and is less healthy.
There may be something else that is going on. A San Francisco Fed study found that 40-60% of the increase in the numbers claiming disability is due to a broader constituency. They note three important aspects. First, the barriers to access have been reduced. Second, the claims are often judged on a subjective criteria. Third, as wages have stagnated, disability benefits become more lucrative for low wage earners. It notes that the benefits are determined on a formula tied to average wages. Income inequality spurs increases in the benefits, despite the stagnant wages.
What seems to be happening is that disability insurance has, at least in part, been co-opted to provide a social net for some. The issue is likely to come to a head in the next year to year and a half as the government projects that the disability fund will not have sufficient resources to pay all claims in full by 2016. A healthier economy may see a slower growth in disability claims.
This piece is cross-posted from Marc to Market with permission.