The Fed Needs Clearer Jobs Data, ASAP

The US labor market may be moving from "not great" to "outright bad." Unfortunately, a more definitive diagnosis will have to wait because the shutdown theatrics of the Washington political class have left us in a lingering data fog.

The latest data showed that the unemployment rate rose to 4.6% in November, up from 4.4% in September (when the data was last available) and a recent low of 4% in January. On the face of it, the upward creep in our most important and comprehensive labor market statistic is an alarming development that would call for further Federal Reserve interest rate cuts. Yet, futures markets currently imply about a 1-in-4 chance of a reduction in January, virtually unchanged from Monday, showing investors don't quite know what to think.

Beyond the unemployment rate, there are other reasons to worry. Nonfarm payrolls have swung wildly thanks to the Department of Government Efficiency's deferred resignation program, contracting by 105,000 in October and expanding by 64,000 in November. Even after discounting that one-time effect, there was nary a reason for optimism in the details. Of the 11 major categories, only leisure and hospitality; education and health services; and construction have seen payrolls grow over the past three months, and the latter was flattered by the artificial intelligence data center boom. Manufacturing; information; and trade, transportation and utilities have all been persistently weak. Meanwhile, average hourly earnings growth cooled to 3.5%, the weakest pace since May 2021.

In the latest report, there was also an unusually large jump in the number of people working part-time for economic reasons (basically people who wanted to work full time but perhaps saw their hours cut). However, the jump to 5.5 million from 4.6 million people was so large that it demands some skepticism.

The latest report could hamstring the Fed. Although policymakers get another payrolls report before the January Fed decision, the missing October report and the caveat-filled November data will make it tricky to interpret the trend. And that underscores the extraordinary recklessness of the administration allowing the Bureau of Labor Statistics to cease normal data production for more than a month.

It's clear that the labor market is not sunshine and roses, but policymakers can't be certain of what it all means. That may prompt the Fed to sit on its hands at a time when some members of the rate-setting committee worry about still-lingering inflation.

The first problem is that the government shutdown itself had an ambiguous impact on the survey. Generally speaking furloughed government workers who expected to be recalled are supposed to be classified as "unemployed on temporary layoff," but we know from previous shutdowns that individuals classify themselves in an inconsistent manner in the government's survey. And indeed, "temporary layoffs" seem to explain about 10 basis points of a 12-basis-point increase in the unemployment rate, but we can't be certain of how accurate that is.

Second, the shutdown meant the BLS missed the opportunity to produce an unemployment rate for October, which makes it tricky to judge the trend and leaves the statistics inherently less reliable. The BLS also noted a lower survey response trend, and said that the confluence of factors meant that the unemployment rate "required a 0.26 percentage point change to be statistically significant compared with a required change in September of 0.21 percentage point." While any one report should always be taken with a grain of salt, that was particularly true this month.

Those caveats may be reassuring to some people, and markets seemed to conclude that was the case. Heading into Tuesday's report, futures implied about two Fed rate cuts next year, and that barely budged even with the jump in unemployment.

But it would be extraordinarily hard to look at the balance of evidence over recent months and conclude that the labor market is good — the debate is really about the different shades of disappointing. While layoffs still aren't surging (not in the government data, anyway), job openings are low, new labor market entrants are finding little success, and various measures of compensation are cooling. Unless something fundamentally changes — perhaps a jolt from tax policy or meaningfully lower interest rates — the base case scenario is that unemployment will continue to tick higher. Hopefully, that will happen slowly enough that policymakers spring into action and prevent a recession.

Source: Bloomberg Europe