The big spike in the Payroll data (+517K) was out of kilter with what has been occurring in the rest of the economy and other labor market data. Financial markets always shoot first and ask questions later, so on Friday, equity markets fell, and bond yields rose on the fear that the Fed would now have a great excuse to raise interest rates even further than what was already priced in. The far right-hand sides of the above charts show the violent up spikes in the yields of the 10-Yr. and 2-Yr. T-Notes on Friday (February 3).
As reported by various reliable sources with deep research capabilities, most or all of the +517K job gains weren’t due to new job creation but to benchmark revisions, seasonal adjustments, and population controls, all keywords for what we can only describe as statistical magic. Morgan Stanley concluded that without the population adjustments, the Household Survey (up an even larger +894K) only rose +84K, while Rosenberg Research concluded the real Payroll number was only +44K.
Last Wednesday (February 1), ADP’s private payroll number was +106K. Over time, there is a 98% correlation between the ADP and Payroll employment reports. So, this divergence is quite unusual, and it appears that one of these reports is misleading. ADP’s numbers have been below BLS’s for 7 months in a row (by -642K over that period) and by more than -1.2 million over the past year. Given the state of the economy, with little to sluggish growth throughout 2022, it would appear that ADP’s numbers are more accurate. One advantage of the ADP report is that it sorts its data by firm size, giving us better insights. For example, small business, which feels changes in the economy much more quickly than large businesses, shed -75,000 jobs in January. And, over the last four months, -260,000.
Here are some examples of the inconsistencies between the Payroll data and other well-recognized economic observations:
- Payroll Report: Retail +30K — retail sales have fallen in November, December, and likely January – why would they be adding jobs?
- Payroll Report: Construction added +25K — Housing starts, building permits, and construction expenditures are down double digits. New jobs in that industry just don’t make sense.
- Payroll Report: Transportation/Warehousing +23K — Amazon is laying off -18K, and Fed Ex laying off management staff. Again, the Payroll Report is at odds with reality.
- Payroll Report: Manufacturing +19K. Every Regional Fed survey showed weakening manufacturing. And the Industrial Production Index itself has been negative for three months in a row.
The State of the Union Address is Tuesday (February 7). It is 100% certain that the President will refer to the Payroll data as a sign of strength in the economy. Lies, Damn Lies…
The other big economic event last week (Wednesday, February 1) was the Fed meeting (now moved to the back pages of the newspaper due to the Payroll data). As expected, the Fed raised rates 25 basis points (bps) to a range of 4.50%-4.75% for the Federal Funds Rate (the rate banks pay for reserves). Before that meeting, the financial markets had priced in one more 25 bps hike at the Fed’s mid-March meeting. But, the Fed’s written statement threw cold water on that notion. It indicated that the Fed intended to raise rates over the next several meeting. Was this just posturing to get the markets to stop easing financial conditions, or did they mean it?
During the post-meeting press conference, Chair Powell appeared much less hawkish than he had been or was expected to be. In fact, he admitted that the recent inflation data had improved, including the admission that the rent data in the CPI calculation was several months behind reality and would soon be catching up in upcoming CPI releases. We postulate that the FOMC had access to the Payroll data. Powell knew that yields would rise substantially based on the then-upcoming labor report. As a result, he didn’t have to be as hawkish as usual. Still, at that press conference, he sorted his inflation view into three categories, two of which he indicated were going in the right direction but weren’t important from a policy point of view.
- Goods inflation – clearly in disinflation mode, but because this was a supply issue, no longer important;
- Housing inflation – he admitted that BLS’s methodology is 6-9 months behind and that rents have been declining for several months in a row – so the CPI will soon reflect housing disinflation. (In addition, the Case Shiller home price index has shown home price declines since September.) This, too, had become irrelevant in the Chairman’s view.
- The third category is servicing inflation ex-housing. This is still rising, but at a much-reduced rate – but this is the category that Chair Powell and the Fed are now concentrating on. So it appears the Fed is picking and choosing what it looks at to justify its rate increases.
Remember, GDP growth came in at 2.9% last week, reassuring Powell and Company that the economy is doing fine. They appear largely oblivious to the extent of the deceleration in real economic activity. In 2001, the Greenspan Fed cut interest rates by 50 bps when it learned that the ISM Manufacturing New Orders Index had fallen to 42.1. It was correct in its view that a Recession was about to begin. As seen from the chart below, that same ISM indicator fell to 42.5 in January – but Powell’s Fed hiked rates on the news!
The reality is that over the past three and six-month periods, the CPI’s annualized inflation rate is below the Fed’s 2% target. The three-month rate is at an annual rate of 1.82% (see chart below). In addition, wage growth is slowing, with average hourly earnings rising by +0.3% M/M in January, pushing the Y/Y growth rate down to 4.4% from December’s 4.8%. Yet another sign that inflation is melting.
- Challenger, Gray, and Christmas, the experts in job cuts, recently indicated that January job cut announcements rose +136% M/M from December and were up +440% Y/Y. Layoffs have occurred in every economic sector except energy (and tech led the way). Hiring announcements fell -36.6% M/M in January, were down in three of the last four months, and were off -58.7% Y/Y. These are big numbers.
- In the housing sector, the all-important spend on single-family construction was off -2.3% M/M in December, has been down eight months in a row, and is down -14.7% Y/Y. We expect January to continue the downtrend.
- Non-Residential Construction also showed up negative in December (-0.5% M/M) led by a -2.3% falloff in expenditures in the Manufacturing Sector.
- Industrial Production fell in October, November, and December, and various surveys indicate that it fell again in January.
- One of those surveys is the Chicago PMI (Purchasing Managers Index). Note in the chart below that it has been below 50 (the demarcation line between expansion and contraction) for the last five months.
- The consumer, of course, whose spending comprises 70% of GDP, is the ultimate key to the economy. In past blogs, we noted the rise in credit card balances (trying to maintain living standards). We note that those card balances are up nearly 19% Y/Y, and as noted in our last blog, credit card companies are setting aside larger reserves for expected rising delinquencies. The chart shows the rapid rise that has already occurred in auto delinquencies.
Don’t be fooled by the headline jobs report or the State of the Union Address. The good news on the economy is all due to statistical magic. Unfortunately, that gives the Fed justification to continue its rate-raising regime. We are certain that they will raise another 25 bps in March. Whether they continue after that depends on whether or not there is general recognition that the Recession is in progress.
One economic data series that is hardly discussed is the growth rate of the monetary aggregates. We’ve mentioned this in every blog we’ve written for the last several months. We’ve noted that, in its history, M2 (cash + demand deposits + time deposits + money market funds) has never had negative Y/Y growth until now. As the chart shows, M2 (dark line on the chart) and the CPI (gold line) are closely entwined. Expect inflation to continue to melt. As seen time and again over economic history, the negative M2 growth rate (like many other data series discussed here) also implies Recession.
Robert Barone, Ph.D.
(Joshua Barone contributed to this blog)