Employment is the lifeblood of the U.S. economy. When employment is humming, people have more income, employers are hiring more qualified employees and increasing production. Ultimately, the economy benefits. When there is a disconnect between the supply of workers and the supply of jobs, the economy begins to suffer. It doesn’t matter if there aren’t enough jobs or there aren’t enough prospective employees, both shortages act as a drag on future economic performance.
Recently, we have had some strange reports describing our employment situation. These reports have had surprises for economic observers, but when you take them all together, they potentially indicate a labor disconnect in our economy.
The Jobs Number:
First, on March 8th, the comprehensive U.S. Employment Report was released by the U.S. Department of Labor, and it sent shock waves through the markets. Economists had been expecting 180,000 new jobs, but instead, it came in at 20,000 jobs. This was the lowest job number since September 2017. This is a headline number that moves the fixed income markets and ultimately the stock markets. 20,000 new jobs is not nearly enough to keep pace with new labor entrants, and ultimately will act as a brake on U.S. economic activity.
Looking below the headline new employment numbers though, showed some interesting movement. The number that caught my attention was that wages started growing at a faster pace. The Average Hourly Earnings number increased by 0.4%. That number doesn’t sound like much, but it represents an acceleration from the past. For the past few years, economists have been waiting for this to start rising as the economy moves to full employment.
If this is the start of a series of wage gains, then the economy will begin to overheat, and inflation will begin to raise its ugly head. It has been dormant for so long that we have really forgotten what it feels like, and we are a long way from experiencing this. The first step is as wage rates go up, companies feel pain in the short run as they increase their labor costs. Ultimately, in the long run, though, they rise prices, and actually their profits should rise.
It was strange to see these two numbers in the same report. Usually, when there’s a dearth of new jobs, you don’t see wage pressure. So there were some conflicting datapoints in the same report.
Today marked our third datapoint and cleared up the disconnect from the earlier jobs report. The JOLTS report (Job Opening and Labor Turnover Survey) came out, and one number really highlights where the economy is right now. The amount of currently available job openings rose 102,000 up to 7.58 million. That means that employers ARE still creating jobs, but they have reached the limit of qualified applicants. They simply can’t fill these job openings, and these jobs remain open.
This means that the initial fear from the jobs report of 20,000 new jobs is NOT a sign that the economy is slowing. Rather it is a sign that we have reached a disconnect in the labor market where full employment is limiting companies ability to hire the right amount and type of resources to continue to grow their companies. And if you add this up across the economy, this will act as a governor that will eventually slow down GDP growth and hurt corporate growth.
Impact on the Stock Market:
So what does this mean for the markets? Ultimately a strong economy is a boon for the markets, but as we hit the outer bounds, there are inefficiencies which hurt companies because they can’t find employees and they have to raise wages to keep the ones that they have.
In the short term, this cuts into profits – and you may see an earnings slowdown in the next quarter or two. In fact, analyst estimates already show this, and Q1 estimates already represent a major slowing in earnings growth. This will be a drag on stock prices and investors will shun companies that are truly impacted by this phenomenon.
The Service industries will be the most vulnerable. They need a continuous stream of inexpensive workers that will be much harder to source. Tech firms, if they can keep pace, should benefit as companies try to automate more functions. This will generate more demand for their goods. Companies that already source labor from outside of the U.S. will also benefit.
For these trends to be confirmed, there need to be more months of this type of data. Investors should focus each month on the first Friday of the month on the Employment Report which is released at 8:30. If there are more large wage gains that aren’t coupled with large employment gains, it is time to rotate your portfolio.