Employment Report - Worse Than It Looks
There was not much to like in the August, 2012 employment report as released by the Bureau of Labor Statistics (BLS) today. Not only did the headline number miss expectations by a wide margin, an increase of 96,000 jobs versus consensus estimates of 130,000, but both June and July's reports were revised down sharply as well. June dropped from the original estimate of 64,000 to just 45,000 while July's monster 163,000 expectation blasting number was slashed to 141,000. The unemployment rate dropped from 8.3% to 8.1% due to a sharp drop in the labor force participation rate which plunged to lowest level in the last 31 years.
Yesterday, I penned an article discussing the sharp rise in the ADP employment report, up 201,000, and the average seasonal adjustment that the BLS uses for August which increases payrolls by more than 200,000 historically. In that report I had estimated that today's employment report should have been close to 175,000 - clearly I was wrong. Where I made my miscalculation, as you will see in a minute, was the sharp drop in temporary employment as summer hires quit to return to school.
However, the report was actually worse than it appeared on the surface and has far reaching implications to the economy and the upcoming election.
While the headline employment number showed an increase in 96,000 jobs what is often missed is that the working age population in the country grows each month. This is why one my favorite measures to judge the employment situation by is the employment-population ratio (EPR) which is simply the number of employed divided by the total working-age population.
There are a two important takeaways from the data. The first is that the level of job creation has not been enough to offset the pace of working age population growth. In the month of August, while the headline number showed an increase of 96,000 jobs, the household survey showed a decline of 119,000 jobs while the working age population grew by 212,000. This resulted in a decline of the EPR to 58.3% from 58.4% last month.
The chart shows a dashed green line, that was started in June of 2011, of the EPR and the growth rate of jobs required to reach full employment by 2020. In mid-2011 it was assumed that if the economy could create 250,000 jobs per month then full employment could be obtained by 2020. Over a year later the EPR has not even turned up yet as population growth continues to outpace job growth. Furthermore, historically speaking, the economy has needed to create in excess of 180,000 jobs every single month just to absorb the growth in working age population. Do you see the problem here? The structural shift in employment, increases in productivity and globalization have changed the measure of what future "full employment" will look like.
The chart above shows the long term growth trend of employment in the U.S. going back to 1948. Historically, employment has ranged between +/- 5% of the long term trend line. Currently, that deviation from the trend is negative 12.4% which is the lowest level since July of 2011.
As stated above, the household survey, as opposed to the official release, showed a decline in employment of 119,000 in August which follows a decline of 195,000 in July. While it is too early to tell just yet - it appears that employment may have reached its peak for the current economic expansion cycle. As the chart below shows - the annual change in employment has peaked at levels seen during the last expansion and has now turned lower. The drop in the household survey reflects the declines in new orders and backlogs that we have seen from manufacturers over the last couple of months. If those trends continues we should expect to see further weakness to the employment reports in the months ahead.
Marginally Attached, Discouraged And Not In Labor Force
In order to be counted as unemployed by the BLS one must be unemployed, obviously, and have ACTIVELY looked for work in the prior 4-weeks AND are currently available for work. If you do not fit that criterion you are not counted in the "official" employment report known as the U-3 report.
Today there are obviously many individuals that do not fit the criteria and are not counted. This is there the U-6 Report comes into play. The U-6 report shows the total number of unemployed plus all workers that are marginally attached to the labor force as a percent of the labor force. These are persons who are currently unemployed, want to work full-time and have actively looked for a job in the past 12 months. A "marginally attached" worker is not considered to be either employed or unemployed, so they are not included in the "official" employment number. The U-6 also includes those that are employed part-time because they cannot find full-time jobs. In the month of August the U-6 unemployment rate was 14.7 percent of the labor force. In the most recent report those persons considered "marginally attached" rose by 32,000 after a 46,000 increase in July. Likewise, "discouraged" workers fell by 8,000 after rising 31,000 the month before.
Since 2009 the number of individuals who are working "part-time" has risen by 1.417 million jobs while "full-time" employment is lower by 1.442 million. This explains the 14.68 million person increase in food-stamp usage during the same time period.
As I stated above, my error in calculation yesterday was not taking into account the number of individuals leaving "part-time" employment to return to school as the summer came to end. This was refelcted in the August jobs report as part-time employment decreased by 168,000 while full-time employment rose by 43,000. However, it is still quiet evident that full-time employment is still not highly desired by businesses that are struggling with weak demand from end-user sales and new orders, rising input costs and high employee-related costs.
Not In Labor Force
So now that we know who is effectively counted as employed, or unemployed, this leaves us needing to understand what constitutes the civilian labor force. The labor force measures are based on the civilian non-institutional population 16 years old and over. This means that all individuals who are under 16 years of age, or confined to institutions such as nursing homes and prisons, or persons on active duty in the Armed Forces are excluded.
The "labor force," calculation, which is used for the BLS employment reports, is made up of the those that are employed plus those that are considered unemployed as per the U-3. The remainder—those who have no job and are not looking for one—are counted as "not in the labor force." While many of those have historically been those that are retired or are going to school – since the financial crisis this number of individuals is swelling due to the inability to find work.
During the most recent survey period the number of individuals considered "not in the labor force" swelled by more than 581,000. To put this into perspective there are roughly 10,000 individuals each month that actually retire. Therefore, it is quite obvious that there are large amounts of individuals simply disappearing from the count each month which is reducing the size of the labor force. Since 2000, the number of individuals moving into the NILF category has remained well above the long term median of roughly 55,000 per month.
While the unemployment rate dropped from 8.3% to 8.1% in the most recent report the simple fact from looking at the data is that the drop did not come from employment creation but rather a shinking of the labor force. At the current rate of persons being moved to the "not in labor force" category it is entirely feasible, statistically speaking, the economy will move towards full employment even at the current anemic levels of hiring.
Election And QE3
The two questions that is on everyone's mind today is a) how will today's jobs numbers affect the upcoming election, and b) does this ensure that Bernanke comes with QE3 next week?
For Obama the weak jobs number could not come at a more crucial time as he is trying to defend his first term. Employment has remained lackluster and, more importantly, wage growth has remained stagnant. When individuals vote at the polls they generally do not vote on economic facts and statistics but rather how they "feel". Do Americans feel better off than they were four years ago?
While you can spin the economic data to tell you either side of the story - the simple reality, and what will matter at the polls, is simply "no." Middle class America has sat back over the past four years and watched their net worth decline as the current Administration embarked on bailouts for banks, crony's and insiders, failed to prosecute those that were implicit in the financial crisis, and turned a blind-eye towards the real needs of the country to set forth a personal agenda. For Obama, while the polls currently have him tied with Romney, the results at the voting booth will likely tell a far different story.
As far as QE 3 from the FOMC next week - the week employment data certainly provides an argument for further "accommodative action" at the next meeting. However, where the media and the markets are mistaken, is that "accommodative action" does not necessarily mean "QE". Balance sheet expansion programs have shown no direct impact on employment. However, what these programs have done is boost inflationary pressures and interest rates.
With the financial markets making new highs for the year, inflationary pressuress mounting and interest rates at low levels - it is likely that the Fed will remain with more traditional policy at the next meeting such as extending the ultra-low rate environment through 2015. This would be the most logical course of action considering that a bulk of the impact from a further QE program is already priced into the market. With each program having a diminishing rate of return I expect that he will reserve his "bazooka" for later this year, or early 2013, when the economy is on the brink of a recession or there is a threat of a systemic event. Both are very likely to happen.