Slowing Job Growth Paints a Path to a Soft Landing

Article originally posted on CoStar on July 12, 2023

The Federal Reserve’s efforts to orchestrate a soft landing appear to be working. The economy seems to be bearing fairly well the burden of the most-aggressive monetary tightening program in history. Economic growth in the first quarter was reported to be 2% in its final estimate, exceeding forecasters’ projections, and analysts are now entertaining the possibility that the much-anticipated recession will be pushed off a quarter or two — or be avoided altogether.

A significant amount of momentum in the economy is due to the still-solid labor market, as firms continue to hire and wages continue to climb, providing households the wherewithal to spend despite inflation.

According to the latest jobs report, firms added 209,000 positions in June, and wages grew by 4.4% over the year, faster than inflation. The unemployment rate ticked lower, and labor participation rate of prime-aged workers rose for the third consecutive month to 83.5%, its highest rate in more than 20 years.

This strong showing might have been a concern as the Federal Reserve has repeatedly voiced its fear that wage growth could induce higher inflation.

But while the labor market is holding up just fine, it is slowing. The three-month moving average has come down to 244,000 positions from 334,000 at the beginning of the year. Moreover, job growth in each of the past five months has been revised lower, as full data show first estimates to be more optimistic than the final numbers prove. This sits in contrast to the second half of last year, when monthly revisions were consistently positive, indicating that firms were hiring more workers than the Bureau of Labor Statistics was reporting.

Tellingly, hiring has become more concentrated in large, anti-cyclical sectors, which are less sensitive to financial conditions and higher interest rates and can continue to grow even as the economy overall may slow or fall into recession. Education and healthcare firms, for example, added 73,000 positions in June, as the sector is driven by a growing and aging population.

Governments, also anti-cyclical, added 60,000 positions in June but have still a way to go to recover to pre-pandemic levels as there are 161,000 fewer workers in the sector than there were in February 2020.

We can expect to see jobs continue to grow here as the pandemic-era competition with higher-paying private sector jobs starts to ease, and public agencies, especially schools, recover to earlier staffing levels. Excluding government, education, and healthcare, job gains in June measured only 76,000.

In a separate survey, the Labor Department reported that job openings fell to 9.8 million openings on the last day of May from 10.3 million on the last day of April. Compared to a year ago, job openings are down by 14.1%. Job openings can change more rapidly than payrolls, as it’s far easier to take down a job listing than it is to actually lay off a worker. Historically, however, sharp declines in job openings have resulted in job losses during the following months.

But this is all good news to the Fed as it tries to lower inflation without pushing the economy into recession. In its estimation, demand for labor is still outpacing supply, precipitating stronger wage growth that firms will try to compensate for by raising prices. The Fed’s response to these recent data releases is likely to be more rate hikes to further slow the economy and job growth — which risks a sharper economic downturn than desired.

The Fed’s measure of labor demand is the job openings rate, or what share of the staffing levels firms desire remains unfilled. If there are plenty of unfilled positions, firms are likely to raise wages to attract more workers, worsening inflation. If firms aren’t looking for more workers, then wages are not likely to be pushed higher, removing the pressure on margins and potential price increases.

Job openings peaked at 12 million in March 2022 and have remained elevated since. However, as employment has grown significantly since then, the openings rate has fallen and is now more than halfway to its pre-pandemic rate.

At the same time, the unemployment rate remains close to 50-year lows, an indication of the strength of the economy. Should the openings rate fall further without the economy falling into recession, the Fed will have achieved its Goldilocks outcome.