The "Labor Hoarding" Effect
Just recently the April employment report was released by the Bureau of Labor Statistics (BLS) which showed a surprise jump in employment for the month of April of 165,000 jobs. The general consensus for the report was 153,000 jobs so the "better than expected" news was credited to the surge in the financial markets.
There has been much analysis of the data since the report with views that ranged from ebullient to dismissive. However, the reality is that, despite better than expected numbers in the report, employment gains to this point have been nothing more than a function of population growth. The chart below shows the 12 month average of the net change in both employment and population. As you can see there have been very few months since the turn of the century where employment has exceeded population growth.
This explains two things:
- Why the employment to population ratio has plunged along with the labor force participation rate; and
- That employment gains, so far, have been a function of businesses hiring only to meet the demand increases caused by an increase in population rather than from a growing economy.
The latter point is very important and relates directly to an issue that has been lurking silently in the background called "labor hoarding."
Since the end of the recession businesses have been increasing their bottom line profitability by massive cost cuts rather than increased revenue. Of course, one of the highest "costs" to any business is labor. One way that we can measure this view is by looking at corporate profits on a per employee basis. Currently, that ratio is at the highest level on record. (Scale below is inverted for clarity)
The problem that businesses are beginning to face currently is that while they have slashed labor costs to the bone there is a point to where businesses simply cannot cut further. At this point businesses have to begin to "hoard" what labor they have, maximize that labor force's productivity (increase output with minimal increases in labor costs) and hire additional labor, primarily temporary, only when demand forces expansion.
The issue of "labor hoarding" also explains the sharp drop in initial weekly jobless claims. In order to file for unemployment benefits an individual must have been first terminated, by layoff or discharge, from their previous employer. An individual who "quits" a job cannot, in theory, file for unemployment insurance. However, as companies begin to layoff or discharge fewer workers the number of individuals filing for initial claims decline. This is shown in the chart below which shows the 4-month average of layoff and discharges versus the 4-week average of initial jobless claims.
However, the mistake is assuming that just because initial claims are declining that the economy, and specifically full-time employment, is markedly improving. The next chart shows initial jobless claims versus the full-time employment to population ratio.
Furthermore, if we take a look at the 4-month average of net new hires we see the same story. Net new hires is likely signaling the peak of the employment for the current economic cycle.
The issue of "labor hoarding" is an important phenomenon that is likely obscuring the real weakness in the underlying economy. Without an increase in the demand part of the equation businesses are likely to continue resorting to further productivity increases to stretch the current labor force farther to protect profitability. However, as we may currently be witnessing, businesses may be reaching the limits of what they can do to continue increasing profits at the bottom line while revenue declines at the top. The implications for the financial markets going forward are clearly negative.
The "good news" is that for those that are currently employed - job safety is high. Businesses are indeed hiring; but prefer to hire from the "currently employed" labor pool rather than the unemployed masses. The "bad news" is that for those unemployed full-time employment remains elusive and wages remain suppressed due to the high competition for available work.
The current detachment between the financial markets and the real economy continues. The Federal Reserve's interventions continues to create a wealth effect for market participants, however, it is unfortunate that such a wealth effect is only enjoyed by a small minority of the total population - and it is primarily those at the upper end of the pay scale that have jobs.