Friday, March 8, 2013

Jobs report better than expected

The February payroll report was better than expected, better even than the ADP report suggested. Private sector jobs are growing at about a 2% rate, which is enough to bring the unemployment rate down over time. If productivity retains its long-term average growth of 1% per year (it was only 0.5% last year), this points to real GDP growth of 3%. That's not enough to close what I estimate to be the economy's 13% output gap, but it's sure better than stagnation.

February nonfarm payroll gains were much stronger than expected (236K vs. 165K), and private sector  payroll gains were even stronger (246K vs. 170K), as the public sector continues to shed jobs. Since the low in early 2010, the private sector has generated 6.35 million jobs. We're still a long way from where we should be—it would take maybe an additional 5-7 million jobs to put the economy back on its long-term growth track—but the progress is undeniable.

Jobs growth in the private sector actually has been running at about a 2% rate on average for almost two years now, which is about the same pace as we saw in the mid-2000s.

The thing about this recovery that has been different from all others is the extremely slow rate of growth of the labor force: those who are either working or looking for work. As the chart above suggests, some 5-6 million people have "dropped out" of the labor force, presumably because they have given up looking for a job. That explains a lot of the decline in the unemployment rate.

Regardless of whether the unemployment rate is understated (overstating the economy's health) or not, the fact remains that there has been a significant increase in the number of jobs over the past three years. Unemployment has clearly declined, and as usually happens during recoveries, government spending as a share of GDP has also declined. These are two very welcome developments. The recovery is proceeding in typical fashion, even though it's been a very sluggish recovery.

The stock market rally is fully justified by the ongoing—albeit slow—recovery in the economy. The chart above compares the decline in weekly unemployment claims (inverted, as a proxy for the economy's underlying health) to the S&P 500. Nothing unusual here at all. Claims are getting back down to "normal" levels, and the stock market today is only 2% shy of regaining its former high.

I don't think monetary policy has had much to do with the economy's recovery. The Fed has responded to the market's intense demand for safe-haven assets by buying $1.7 trillion of Treasuries and MBS, effectively swapping bank reserves (which are functionally equivalent to 3-mo. T-bills) for bonds. They haven't "printed" much more money than usual, and the fact that inflation has not soared is good evidence that they haven't done too much.

But as the chart above shows, inflation expectations are now picking up. The difference between the yield on 5-yr TIPS and 5-yr Treasuries is now 2.58%, which is the market's expectation for the average annual inflation rate over the next 5 years. This measure of inflation expectations has rarely been this high since TIPS were first issued in 1997.

The chart above shows the yield on 30-yr T-bonds. Note that since QE3 was officially announced in early November, yields are up about 50 bps. Yes, even thought the Fed has been buying bonds and trying hard to push long-term bond yields down, yields have instead risen. This is the paradox of Quantitative Easing: if it works (by stimulating inflation expectations), then it won't be able to do what it was intended to do (depress long-term yields). In other words, the Fed's failure to artificially depress long-term yields is good evidence that it has been successful.

It's becoming increasingly obvious that we no longer need more Quantitative Easing. QE3 is overstaying its welcome.


Gloeschi said...

Output gap is 6% according to the CBO (not known for making overly pessimistic forecasts). I keep pointing it out, yet you bring back your 13% number.
Or go to Fed Res Bank of St. Louis, look up "potential GDP". It's about $17 trillion today. You do the math.

Employment: would this have served you well in detecting the great recession? Especially initial data, which was revised downwards by 160k-273k per month in Q3 2008 - that's before Lehman.

Since you believe government spending hurts GDP and company profits (just don't ask those defense contractors - they don't mind the dollars coming from the government) and QE has nothing to do with stock prices (despite Ben admitting the opposite) spending cuts and end of QE would get the market really going, right?

Public Library said...
This comment has been removed by the author.
Public Library said...

This is how Fed bubbles work. Blow hard enough and capital is eventually deployed. And eventually we find out captial was misallocated. Gotta ride the wave and bailout before the stampede. We are 4 years into bubble blowing at this stage of the cycle.

McKibbinUSA said...

Unfortunately, the US employment to population ratio is still stagnating -- an employment recovery is not in sight for Main Street -- I am delighted with the rise in equities for the record -- however, I weep for the human suffering that continues along Main Street USA -- suffering that is likely to worsen over the balance of the 21st century -- my evidence of Main Street suffering include the long-term declines in the employment to population ratio, the long-term declines in real home values, and the long-term declines in real working wages -- ordinary Americans without means and skills are in for continuing suffering -- again, I weep for those Americans despite my financial gains -- more at:

Thank you for the opportunity to comment...

Unknown said...

Please give another explanation on your March 13, 2013 "QE3 is overstaying its welcome". My understanding is that the FED is wrong yet they got lucky? Thank you for your time and articles.

Scott Grannis said...

Re the Fed: I think the Fed was slow to react to the financial crisis in 2008, but QE 1 and QE 2 "saved the day" by providing safe short-term assets to world that was desperate for them. (All the Fed has done is to swap bank reserves for notes and bonds; they have not "printed money" in any unusual amount.) But sooner or later the world's demand for safety will decline as confidence increases. I think this process is now just beginning, which means that the Fed should now be reversing QE by raising interest rates on bank reserves. They must do this to keep the demand for money from declining too fast and creating inflation.