Weekly Economic and Financial Commentary

Labor Market Concerns Cloud the Economic Outlook

Mon, Oct 12 2009, 07:46 GMT
by Wells Fargo Research Team - Wells Fargo Investments, LLC | View company's profile

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Labor Market Concerns Cloud the Economic Outlook

Last week’s larger than expected decline in nonfarm payrolls and today’s weak JOLTS numbers for the month of August suggest that it will take a very long time to recover all the jobs lost during this cycle.
Chain store sales for September came in slightly better than expected, climbing 0.9 percent from August and rising 0.1 percent year-over-year.
The ISM non-manufacturing index rose slightly more than expected, climbing 2.5 points to 50.9.

Still Firmly on the Road to Recovery

Last week’s larger-than-expected decline in nonfarm employment, combined with news that subsequent revisions to the employment data will show a much larger employment loss for previous months, has raised additional concerns about how long it will take to replace the jobs lost during this recession and how high the unemployment rate will ultimately rise. The latest data and benchmark revision estimate put the current job loss since the start of the recession at 8.0 million jobs, or a 5.8 percent loss. We expect nonfarm employment to continue to post declines until late spring at the earliest, bringing the ultimate job loss to 9.0 million jobs, or just over a 6.5 percent decline. Both rank as the largest declines since World War II.

Whether or not the unemployment rate rises to a new postwar high will be determined by how quickly job growth returns and how rapidly the labor force expands. Our September forecast has the jobless rate topping out at 10.5 percent around the middle of next year, and then gradually edging lower over the next several quarters. Right now that forecast is based more on the expectation that hiring plans will improve rather than any hard evidence that hiring is set to pick up.

Three reliable leading indicators of future employment growth are the length of the workweek, temporary employment, and the number of job openings relative to the size of the employment base. All three have been declining, although decreases in the workweek and temporary employment have clearly slowed. The third measure, job openings as a share of the workforce, has steadily declined since it first turned down in June 2007, six months before the recession began. The job openings rate is currently at a record low 1.8 percent and the number of job openings has fallen 50 percent since the series peaked in June 2007. The lack of improvement in the job openings series is consistent with anecdotal reports from businesses that suggest hiring will be exceptionally sluggish through at least the end of this year and probably well into 2010.

Fortunately, layoffs appear to be decelerating. Weekly first-time unemployment claims fell by 33,000 to 521,000, marking the fourth decline in the past five weeks. These figures mesh well with what we are hearing from businesses we visit with regularly. Most firms report that major layoffs are behind them and few plan any additional major cuts. Most are in no hurry to hire, however, and many continue to reduce staff through attrition.

The September ISM non-manufacturing survey rose roughly in line with expectations, with the overall index rising 2.5 points to 50.9. The new orders index rose solidly during the month and the business activity index increased 3.8 points to 55.1. The lone weak spot was employment, which rose 0.8 points to 44.3.

September chain store sales rose slightly more than expected, with sales rising 0.9 percent from August and climbing 0.1 percent over the past year. Cooler than usual weather helped drive demand for clothing and sales at discount stores and warehouse clubs remain quite strong.

Global Review

Very Low Rates No Longer Appropriate Down-Under

The Reserve Bank of Australia surprised investors with a sooner-than-expected rate hike, reflecting an economy that no longer needs the extremely accommodative policy put in place in the midst of the financial crisis.
Australia did not experience as much turmoil in the financial sector as other nations, and the country's extensive trade ties with Asia, where bona fide recoveries appear to be taking hold, have helped to boost Australia's exports.

Reserve Bank of Australia Hikes Rates

The Reserve Bank Australia (RBA) surprised investors this week by hiking its main policy rate by 25 basis points. Although the direction of the move was not a surprise—most market participants had expected the RBA to hike rates at some point over the next few months—the timing of the move was earlier than generally expected. Why did the RBA hike rates now? Does its tightening move have any implications for other major central banks?

Like most central banks, the RBA slashed its policy rate in the aftermath of last autumn’s financial crisis. With most analysts expecting a severe global recession, policymakers took steps to cushion the blow to the Australian economy. Not only did the RBA ease significantly, but the government also enacted a significant fiscal stimulus package. In the event, the downturn down-under turned out to be less severe than many had feared. The contraction in real GDP lasted only one quarter (the fourth quarter of last year), and the economy appears to be bouncing back on a sustained basis (top chart). Indeed, the country created 48,000 jobs during the third quarter—roughly a 0.4 percent increase—the first quarterly rise since the end of last year. The unemployment rate, which rose by only two percentage points between early 2008 and this summer, edged down to 5.7 percent in September (middle chart).

Australia’s relative out-performance generally reflects two factors. First, the Australian financial system was not ravaged as badly as the financial systems of many other major economies over the past two years. Second, Australia has extensive trade ties with most Asian countries, and the recoveries that are underway in those economies have helped to spur Australian exports this year.

In short, the Australian economy no longer needs the stimulation of very low rates that were put in place as an emergency measure. Therefore, the RBA is in the process of “normalizing” rates again, and further tightening is likely in the months ahead. That said, the RBA probably won’t slam on the brakes either via an aggressive campaign of rate hikes. The overall rate of CPI inflation is benign at only 1.5 percent presently. Although the core rate of inflation is higher at 2.5 percent, it has trended lower over the past year and currently is in the middle of the RBA’s target range of 2 to 3 percent. In addition, the global economy still faces some significant downside risks, and the RBA probably wants to proceed at a cautious pace until it is sure that a self-sustaining recovery is indeed underway.

Does the RBA’s rate hike have implications for other major central banks? No. Other advanced economies are significantly weaker than the Australian economy. The Federal Reserve, the ECB and other major central banks won’t tighten just because the RBA hiked rates this week. In our view, other major central banks will be on hold well into next year.

However, the RBA’s decision has implications for the value of the Australian dollar. In the wake of the rate hike announcement this week, the Aussie dollar strengthened versus most other major currencies, especially vis-à-vis the U.S. dollar (bottom chart). With the market expecting further tightening from the RBA and with most other major central banks likely on hold for the foreseeable future, the Aussie dollar could continue to ply higher, at least in the near term.

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Published On Mon, Oct 12 2009, 08:02 GMT

About this Report

Wells Fargo Investments, LLC

https://www.wellsfargo.com/

sam.bullard@wachovia.com

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