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Full employment with no inflation?
Simply Economics - June 1, 2018
By Mark Pender, Senior Editor



Employment is on the rise and is increasingly a point of risk for the economic outlook -- that is payroll growth relative to the available labor force may not be sustainable. Yet one key indication of stress is not making much of an appearance and that of course is wage inflation -- at least not yet. We'll look at wages and also at overall inflation in this week's report as well as take a look at the consumer who is showing only limited benefit from all the jobs.


The economy

Nonfarm payrolls rose 223,000 in May in a big gain that took forecasters by surprise, just topping Econoday's high estimate. Growth is led by trade & transportation, up 53,000 in the month for a sector where delivery delays have been climbing, and include solid 31,000 gains for both retail and also professional & business services with this gain suggesting that employers are scrambling, that is turning to contractors to fill positions. Construction payrolls rose 25,000 and perhaps could have risen more given reports of labor shortages in the sector. For manufacturing, which we'll turn to again later in the report, payrolls rose a solid 18,000 which hit Econoday's consensus.


All this employment growth did not come without wage pressure. Average hourly earnings rose 0.3 percent which hit the top end of Econoday's consensus range while the year-on-year rate moved up a notch to 2.7 percent. Earnings are obviously not out of control but the risk of acceleration is increasing as the available labor force shrinks. The graphs tracks year-on-year earnings along with the PCE price index and the PCE core, the former having already arrived at the 2 percent line but the latter, at 1.8 percent, still short of the Fed's goal. It's the core that's giving the Fed some breathing room though a jump to the 2 percent line in the next report shouldn't surprise anybody given the general indication of price pressure in May's average hourly earnings. By the way, the text for this month's FOMC statement is going to require a change as prior statements had said both the overall and core rates were running below 2 percent. Now only the core is under target.


The unemployment rate was another major headline out of the employment report, dipping 1 tenth to a 3.8 percent rate that again, like the strength in payroll growth, was unexpected. And the actual number for people actively looking for work, which is what the unemployment rate is based on, is also becoming a news item, down very sharply to 6.065 million from 6.346 million in April and nearing the 6 million line that was hasn't been crossed in 20 years. The accompanying graph tracks an unprecedented imbalance that no FOMC policy maker, whether hawkish or dovish, can ignore: that the number of job openings may very well be exceeding the number of people looking for work. The JOLTS report for April will be a highlight in the coming week and if the number of job openings does nothing but hold steady, at March's 6.550 million, a new line in the U.S. economy will have been crossed. If this isn't full employment, what is?


Whether danger flashes are being signaled in the employment data is, given the lack of wage acceleration, still a matter of debate, but there's little debate that unsustainable imbalances are increasingly appearing in private and regional surveys. Delivery delays are at record levels in many of these reports as are input costs and -- very ominously -- selling prices as well. Selling prices are generally hard to get moving as businesses routinely absorb increases in inputs to stay competitive. But this can only go on so long with the matter made more urgent for manufacturers who are getting hit, and will perhaps be getting hit even harder, with tariff-related inflation for steel and aluminum. The latest ISM report is very unusual in this regard, citing talk among its sample that possible price increases to customers, which are most often concentrated at the beginning of the year, are being penciled in for the second half of the year. And additional price pressure, and this time tied to wages, also looks to be a risk if backlogs are any indication. The graph tracks ISM backlogs and also backlogs in the Philly Fed's manufacturing sample. Both have been building up which means sample members in these surveys are going to have to increase production, and with that very likely employment as well, to get these orders worked down and out to customers. ISM's 63.5 reading for backlogs was exceeded only once, in 2004 at the strongest pitch of the prior expansion.


But wage growth has yet to take off which is at least part of the reason for this year's surprisingly soft showing in consumer spending. The week's data included the second estimate for first-quarter GDP where inflation-adjusted consumer spending was downgraded 1 tenth to a very underperforming annualized rate of only 1.0 percent. Consumer spending data for the month of April were also released and here a pickup is evident but whether this extended to May is in doubt given what were the month's flat results for unit vehicle sales which came in at week's end. In real terms, the green line of spending has been flat the last couple of year's at just under 3 percent, at 2.7 percent in April, with income well below but improving, to 1.9 percent in the latest report. Also released with these data was the savings rate which, if proof is needed, suggests that workers are definitely not ploughing their income safely into bank accounts. The savings rate hit a 6 percent peak several years ago and has been coming down steadily since, to only 2.8 percent in April's report.


This year's tax cut should be giving consumers a lift but, despite a big drop in personal taxes in January and another decline in April, disposable income has not been showing much strength, posting only moderate monthly gains of 0.3 percent in both February and March and 0.4 percent in April. Corporate taxes, however, are another matter. First-quarter corporate profits were released in the week and show an annualized corporate tax rate of only $328 billion, down $116 billion from the fouth-quarter and the lowest rate of this expansion, since third-quarter 2009. The tax cut clearly bailed the corporate sector out in the first quarter as pre-tax profits actualy fell in a decline, however, that is masked by a 6.0 percent year-on-year profit gain after taxes were applied, in this case sharply lower taxes.


Trade is another area of the economy where incoming data will be of increasing interest. Tariff effects in the data have to appear in force though there is a curious pre-tariff slide in one of the latest details. Advance data on cross-border goods trade were released in the week and the news was very good. The goods deficit did total an enormous $68.2 billion in April but this is much lower than recent totals and will be a positive in the second-quarter GDP calculation. But the mix wasn't ideal as exports, reflecting sharp step backs for vehicles and also capital goods, fell 0.5 percent to $139.6 billion in the month. Imports, at $207.8 billion, also fell 0.5 percent in the month and here is the odd detail: imports of consumer goods fell very sharply, down 5.3 percent to $51.8 billion and following a 1.7 step down in March. If the Trump administration accomplishes its tariff and trade aims, these are the kind of declines that we should not be surprised to see in the future. Consumer goods are the bleeding wound in the nation's trade data.


Markets: Yields down, no fear of Fed?

A rate hike at this month's FOMC appears to be a foregone conclusion following the strength of the May employment report but investors, at least the last couple of weeks, have been moving back into Treasuries. The lack of immediate inflation pressure, underscored by the core PCE, looks to keep Fed hikes gradual and continues to make Treasuries attractive, especially to foreign investors who have been moving out of European bonds on worries over Italy's commitment to the euro as well as political instability in Spain. The U.S. 10-year yield, which peaked out two weeks ago at over 3.10 percent, is now safely and quietly under the 3 percent line at 2.88 percent at week's end. This stability, together with similar moderation in the 2-year yield, is good for the housing market, which has been getting hurt by higher mortgage rates, and also good news for FOMC policy makers who can stick with their rate hike plans and balance sheet unwinding without the distraction of Treasury market volatility.


Volatility continues to be an issue for the stock market which, like earlier in the year, has been posting outsized gains and outsized losses that, for this week, made for only a small net decline in the Dow. But confidence in the market has been improving with the consumer confidence report offering the latest evidence as the bulls rose more than 5 points to 38.3 percent while the bears sunk more than 12 points to 24.4 percent. This is probably good news for the market (unless of course you're a contrarian). The blue area of the graph tracks the consumer confidence index, at 128.0 in May, against the red line of the Dow. The two track closely together though this year's plataeuing in confidence makes the Dow look a bit top heavy. By the way, the job assessments in the consumer confidence report did offer accurate indications for May's employment report as those who say jobs are plentiful rose sharply while those who say jobs are hard to get held at a very low level.


Markets at a Glance Year-End Week Ended Week Ended Year-To-Date Weekly
2017 25-May-18 1-Jun-18 Change Change
DJIA 24,719.22 24,753.09 24,635.21 -0.3% -0.5%
S&P 500 2,673.61 2,721.33 2,734.62 2.3% 0.5%
Nasdaq Composite 6,903.39 7,433.85 7,554.33 9.4% 1.6%
Crude Oil, WTI ($/barrel) $60.15 $67.71 $65.61 9.1% -3.1%
Gold (COMEX) ($/ounce) $1,305.50 $1,305.70 $1,297.60 -0.6% -0.6%
Fed Funds Target 1.25 to 1.50% 1.50 to 1.75% 1.50 to 1.75% 25 bp 0 bp
2-Year Treasury Yield 1.89% 2.48% 2.47% 58 bp –1 bp
10-Year Treasury Yield 2.41% 2.93% 2.90% 49 bp –3 bp
Dollar Index 92.29 94.18 94.22 2.1% 0.0%


The bottom line

The Federal Reserve cannot ignore the imbalance between the low number of unemployed and the high number of job openings and will may begin to make rate hikes more common than not. The imbalance may also spur more hawkish commentary from Fed officials who, by the traditional standard of their profession, seem a little on the dovish side nowadays. The risk they face -- inflation in general and wage inflation specifically -- is still dormant but perhaps could be swelling underneath.


Week of June 4 to June 8

Job openings in the JOLTS report highlight a light week for U.S. economic data that, however. will include international trade. The week opens with factory orders on Monday where a give back for aircraft looks to make for a deceptive decline  in headline growth. Attention turns to services on Tuesday with the services PMI and ISM non-manufacturing reports both expected to show strength. But it will be JOLTS that will be Tuesday's highlight with forecasters expecting job openings to well exceed the number of employed in what would be a first for the U.S. economy. Trade data follow on Wednesday and a steady deficit is the call in a report that may offer early effects from steel and aluminum tariffs. Productivity is always a source of concern and the second estimate for the first quarter also on Wednesday is not expected to show any improvement.




Factory Orders for April

Consensus Forecast, Month-to-Month Change: -0.4%

Consensus Range: -1.0% to 0.3%


The durable goods report for April showed headline weakness which reflected a give back for aircraft orders and which masked solid strength especially for capital goods. Forecasters see factory orders in April slipping 0.4 percent.




PMI Services for May, Final

Consensus Forecast: 55.7

Consensus Range: 54.8 to 55.7


PMI services moved higher in the flash report for May, getting a boost from backlogs and showing other signs of capacity stress as well including a rise in input costs. The index is expected to hold at the 55.7 flash reading.


ISM Non-Manufacturing Index for May

Consensus Forecast: 58.0

Consensus Range: 56.8 to 59.0


Acceleration is the call for the ISM non-manufacturing index which fell back in April due to a shortening in delivery times, one that may have proven temporary given continuing reports of substantial delays in other data. New orders were very strong in April and point to general strength for the May report. Forecasters see the index rising 1.2 points to 58.0.


JOLTS: Job Openings for April

Consensus Forecast: 6.543 million

Consensus Range: 6.200 to 6.600 million


Job openings, at a consensus 6.543 million in April, are expected to hold near March's 6.550 million total and emerge above the number of employed actively looking for work, which for comparison totaled 6.346 million in April (6.065 million was posted for May). Openings in this report have been well ahead of hirings suggesting that employers aren't finding sufficient candidates.




International Trade Balance for April

Consensus Forecast: -$49.0 billion

Consensus Range: -$52.5 to -$47.6 billion


The international trade deficit for goods and services is expected to hold steady in April at $49.0 billion in line with little change in advance data on the goods side of the report. The advance data showed a 0.5 percent decline in imports but also a 0.5 percent decline for exports. Tariff effects on metals are a possible wildcard for the April report.


Nonfarm Productivity, 2nd Estimate, 1st Quarter

Consensus Forecast, Annualized Rate: 0.7%

Consensus Range: 0.3% to 0.8%


Unit Labor Costs

Consensus Forecast, Annualized Rate: 2.8%

Consensus Range: 2.7% to 2.9%


There was little change in the second estimate of first-quarter GDP and little change is the expectation for the second estimate of first-quarter productivity, at 0.7 percent growth to match the first estimate with unit labor costs at 2.8 percent vs the first estimate's 2.7 percent. Output slowed in the first quarter but so did hours worked while compensation rose.




Initial Jobless Claims for June 2 week

Consensus Forecast: 225,000

Consensus Range: 220,000 to 225,000


Initial claims are expected to come in at 225,000 in the June 2 week in what would be a 4,000 increase from 221,000 in the prior week. Low readings in this report are consistent with strong demand for labor.


Consumer Credit for April

Consensus Forecast: $13.5 billion

Consensus Range: $11.0 to $16.0 billion


Lack of growth in revolving credit has been holding back consumer credit which is expected to post a moderate April gain of $13.5 billion. Nonrevolving credit has been on the rise though a flat month for vehicle sales may hold this component back in April.




Wholesale Inventories for April

Consensus Forecast, Month-to-Month Change: 0.1%

Consensus Range: 0.0% to 0.4%


Wholesale inventories are expected to rise 0.1 percent in April and roughly in line with the month's advance data which showed no change. Despite a flat April, inventories have been trending higher in this report in line with sales.


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