JOLTS Report Shows Modest Weakness

Fed Doubles Down On Heightened Inflation Expectations In Minutes

The Fed’s Minutes were released on Wednesday. There wasn’t much new to digest. The Fed seems to be locked in with its decision to raise rates a quarter point in December. The market agrees with the Fed as there’s an 88% chance the Fed raises rates at least once in December. Future hikes in 2018 are much more uncertain. The guidance seems to be for 2 hikes, but nothing is locked in as the economic data or the stock market can cause the Fed to deviate from its plans.

The key place where I strongly disagree with most members at the Fed is inflation. The Minutes stated, "Many participants continued to believe that the cyclical pressures associated with a tightening labor market or an economy operating above its potential were likely to show through to higher inflation over the medium term. In addition, many judged that at least part of the softening in inflation this year was the result of idiosyncratic or one-time factors, and, thus, their effects were likely to fade over time." I think the situation is the opposite as the latest boost in inflation is temporary because of the hurricanes. Without these one time events, inflation would be lower. The chart below highlights my differing opinion. The 10 year break even inflation rate is down for the year, but it has been up in the past few weeks. The Fed thinks the red circle is the temporary move and I think the black circle is the one time move.

The chart below shows what the Fed looks at. The PCE and the core PCE are below the 2% target. The argument that this streak of below 2% inflation based on these gauges is temporary seems ridiculous because the streak has been going on for 8 months. Secondly, the labor market is tighter this year than last year which would imply the inflation would be higher, not lower. This is why I said in my last article that the Phillips Curve is proving to be ineffective.

In summary, most Fed members still think inflation is going to move higher in the next few months because of the tightened labor market. That might prove true at some point in the next few years, but there’s still a lot people who are underemployed. As you can see in the chart below, the M2 money supply and core PCE have had a tight correlation in the past few years. With the money supply growth falling, that implies further deceleration in inflation. Personally, I think the hurricanes will push inflation up temporarily, but this chart shows the medium term trend is lower.

Labor Market To Improve In October

Besides causing inflation to go up, the hurricanes have had a large impact on the labor market as the September report showed -33,000 jobs were created. The chart below shows the average change in the non-farm payrolls report in the past 3 storms compared to hurricane Harvey and Irma. As you can see, the first month of employment data reported was the worst out of any of the storms listed below probably because 2 storms are worse than 1 storm. As you can see from the line showing the average, there usually is a rebound in the second month after the storm. The rebound might be larger than the average because of how bad the job losses were in September and because the recovery in Texas is well under way. The other possibility is that the September number is revised to show less weakness.

JOLTS Report Released

The Job Openings and Labor Turnover Survey showed modest weakness which is interesting because this report is delayed. The jobs report was strong in August, so if that led to JOLTS weakness, imagine how bad the JOLTS report will be for September. The total number of job openings fell from 6.14 million to 6.982 million which missed estimates for 6.125 million. Hiring fell 91,000 to 5.43 million. The rate of hiring growth fell to 3.8% from 3.7%. On a year over year basis, growth fell from 3.6% in July to 2.7% in August. The quits rate fell from 3.194 million to 3.124 million. There were 1.7 million workers fired which is similar to the July report. The chart below compares the Atlanta Fed’s wage growth tracker with the quits rate. It implies wage growth should improve in the next few months to catch up.

These trends are consistent with the previous trends. The job openings are up 60% since 2012, but the actual hiring is up only 25% in the same period. This implies a structural skills gap. Another trend which is consistent with what we’ve been seeing is the Beveridge Curve shown in the chart below. It shows the relationship between the unemployment rate and the job opening rate. The current cycle’s curve is compared to the 1990s business cycle. Throughout the cycle, the job opening rate has always been higher in this cycle than the 1990s cycle. This implies that the skills gap is a relatively new phenomenon. Both cycles took a different route to the same place as the August 2017 and January 2001 points are nearly identical. Looking at January 2001 in terms of the business cycle, that was two months before the economy went into a recession. That’s disconcerting, but I doubt a recession will start in October 2017 because of the GDP boost which is coming from the rebuilding after the hurricanes. Then 2018 might be helped by the tax cuts.

Conclusion

The labor market was supposed to be strong in August, but the JOLTS suggests it was mediocre. When the JOLTS for September comes out, it will look like the prognostication for a recession seen in the chart above is playing out. I think that will be temporary bout of weakness that will pass. A recession starting in October means Q4 GDP would have to be negative. Although not much economic data for October has been released, that is unlikely. The NY Fed expects Q4 GDP to be 2.45%. That estimate will probably be wrong, but not by enough to fall below 0.

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