A ‘Blip’ or Sign of a Slowdown? US Unemployment Rate Climbs to 4%
The Bureau of Labor Statistics (BLS) just released data for the month of June showing that while the economy added 213,000 jobs, the unemployment rate ticked up by 0.2% from May to 4%. Wages also increased slightly to 2.7% on a year to date basis. How should one interpret these data?
From a theoretical perspective these should not create any worries as the natural rate of unemployment - the rate of unemployment believed to be sustainable in the long run due to unavoidable structural and frictional reasons for unemployment - is estimated to be much higher than 4%, somewhere around 5% currently.
Further, the unemployment rate is computed as a ratio of the number of people unemployed to the labor force. The data for June shows an increase in reentrants into the labor force, and a small increase in the labor force participation rate. It is conceivable to see how these could lead to an increase in the unemployment rate if there are perhaps no immediately available jobs to absorb this influx of job seekers. From a practical point of view though there could be obscure economic realities that the uptick in the unemployment rate is bringing to light: First, the natural rate of unemployment may actually be a lot lower than 5% if perhaps economists have actually failed to capture what might be a new normal associated with economy wide changes that have reduced difficulties that in the past might have led to higher structural or/ and frictional unemployment.
These changes brought about by the current digital age might be reflected in more efficient and rapid information flows that cut the job search duration, and forward looking job seekers that have adapted to structural changes by upgrading their skills. This uptick in unemployment could therefore suggest that the economy may be slowing down. Second, wages indeed are going up, even if slightly, and coupled with the subtle but ripple effects from the the very strong trade protectionist policies going on, it could very well be that businesses are indeed facing higher production costs and may actually be acting cautiously in their hiring production and hiring decisions.
The interesting thing about a trade war of the kind that is currently festering is that it will affect pretty much the price of every product given the products directly targeted for tariffs, the global supply chain, and the retaliatory actions being taken by the EU, China and other US trade partners. Third, and somewhat to provide added clarity to the data just released, the unemployment rate is a different variable from the level of employment and this latter variable shows we did add 213,000 jobs. This statistic is considered a leading indicator (that tells us where the economy is headed), unlike the unemployment rate, which is a lagging indicator (tells us where the economy has already been for a while). What this means is that, the economy is still doing good as we are still adding jobs, however it has fallen from May’s levels that were close to 250,000 jobs added. It is perhaps too early, but it could indeed be a foreboding of further declines in jobs added as we would expect if we do experience an economic downturn.
Fourth, there is the problem of irrational reaction to these numbers. It is usually in times like this that policy makers of all stripes come out to let us know how solid the economy is in its fundamentals. The goal here is to manage public sentiments especially consumer confidence, which tends to be driven by animal spirits - the familiar term used to describe swings in economic behavior driven more by sentiments and emotions and typically as a knee-jerk type reaction to bad or uncertain economic news, after a spell of good news. If people see the higher unemployment rate as a sign that the economy is slowing down, they may cut back spending, and this will create that snowball effect of inventory buildups that lead to reduction in production and job cuts - the downward spiral in the economy that ensures that the perceptions of a slowdown end up materializing as one.
It is probably a blip... with caveats My feeling is that it is more than likely just a blip, however policy makers need to pay attention to managing the information on this so as not to spook the market and in particular consumers or what could have been just a blip might become a sustained outcome. My main reason for this position is that the unemployment rate even though higher for June might still be well below the natural rate, whatever that actual rate is. That should therefore keep the economy still in an expansion even though the unemployment rate might now be adjusting to its long run level. Further, as a lagging indicator the unemployment rate is affected more by changes in labor force participation and would not be expected to provide leading information on an economic slowdown because such changes tend to happen well after the fact, and especially as the actual leading indicators are not definitively showing a slowdown. Industrial production (a leading indicator) despite also showing a blip for May, dropping 0.1% after rising 0.9% in April, appears to have a generally positive slope since 2016, though we might need to see what it says for June when the data comes out in Mid-July. Real GDP data for the second quarter has not yet been released but while the economy grew at 2% in the first quarter of 2018, it was slower than the 2017 fourth quarter growth of 2.9% and represents a much slower pace since the second quarter of 2017. Real Incomes on the other hand showed a different picture increasing by 3.6% in the first quarter of 2018 compared to only 1% in the fourth quarter of 2017. The weighted Real GDP-Real Income data show a 2.8% increase in the first quarter of 2018, compared to a 2% increase in the fourth quarter of 2017. Again, both Real GDP and Real Incomes are leading economic indicators and the weighted measure though, only through March of 2018, shows fairly strong growth, despite the seeming contradiction in their growth movements when compared with the previous quarter. The final combo of leading indicators - wholesale and retail trades - again through April and May of 2018 respectively show increases both monthly and from the previous year. These leading indicators generally signal the turning points in economic activity and at least through the second quarter of the year seem to suggest continued growth in the economy. Whether this continues to be borne out will be more definitive with the July data releases, but it is unlikely that the uptick in the unemployment rate is going to be the key signal when, as stated earlier, it is normally a lagging economic indicator.
Credible Reaction from PolicyMakers I did note earlier that it is times like this that policymakers try to calm fears, but actions do speak louder than words. With the Fed projected earlier to keep raising interest rates, it would be interesting to see if they raise interest rates or keep them steady. Raising rates would say the concern remains inflation and that the higher unemployment rate is not a worry about an impending slowdown. If they hold steady, then perhaps we know why.
Further, if reentrants into the labor market are finding it hard to get jobs, could this be a signal that businesses are acting out of uncertainty about impacts from the Trump administration's trade policy position? While protectionist policies may create jobs locally, it is an economic reality that this would come at a cost in higher job losses spread out elsewhere. The unemployment rate by construct would tend to capture this net effect.
So should the Trump Administration continue along the trade war path, it may be that this blip reflects the early pangs of what might be a certain economic slowdown.