US: The Fed welcomes early signs of easing labour markets

While the March Jobs Report continued to illustrate strong headline employment growth, it also brought some welcome news for the Fed. Make no mistake, US labour markets still remain historically tight, with 1.7 unfilled vacancies per unemployed (compared to around 1.2 pre-pandemic). Consumer surveys show that workers’ confidence in finding new jobs remains very high. That said, most leading indicators suggest that labour demand is now cooling, and the elevated nonfarm payrolls growth was supported by recovering labour supply.

Headline developments mask large sectoral differences. Employment in sectors hit the hardest by pandemic-driven labour shortages, such as leisure & hospitality, still remains below pre-covid levels. At the same time, sectors such as manufacturing, construction and retail trade recorded job cuts in March.

NFIB’s small business survey paints a similar picture, as companies continue to report high number of job openings even though their hiring plans have already plunged below pre-covid levels. ISM employment indices also moved lower in March, and while they have not been the best leading indicator lately, the momentum seems to be for weaker employment growth from here.

Continuing jobless claims and JOLTs involuntary layoffs have also started to edge higher, although both still remain at low levels in historical context. But as labour force participation has risen steadily since last November after stagnating through most of 2022, recovering labour supply can still drive healthy NFP growth over the next 1-3 months. But importantly, supply-driven employment growth is not inflationary like demand-driven is, but rather the opposite.

It is difficult to see what exactly is driving workers back into labour force, but we suspect it could be related to majority of the households’ excess savings now being depleted, while real disposable incomes are still subdued, as we discussed in the Nordic Outlook - Unchartered territory, 4 April. In any case, further recovery in participation rate would make Fed’s job of rebalancing the labour market easier down the line.

For now, wage inflation pressures remain too high. Average hourly earnings growth ticked higher to 0.3% m/m in March, while JOLTs Job openings are still consistent with employment costs rising by around 4% annually. While core inflation eased in March with even the Fed’s closely followed services ex. shelter CPI moderating, underlying price pressures still remain too elevated for comfort.

We continue to forecast a modest recession for the H2 2023, which will push monthly NFP growth clearly below 100k, and eventually lift unemployment rate to around 4.2% in 2024. This would be only modestly above Fed’s median longer-term unemployment estimate (4.0%), and is consistent with the output gap turning slightly negative. Despite the latest encouraging developments, some further slack in the labour market will be needed to ensure that wage inflation cools down to levels consistent with Fed’s price stability mandate.

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