Economic Commentary

Economic Commentary

July 7, 2023

Despite downside surprise on the labor front, it’s probably not enough to stop another Fed rate hike

Executive summary

U.S. payrolls in June added 209,000, below the consensus expectations of 230,000 – the first miss in roughly a year and a half. Moreover, there were sharp downward revisions to the prior two months, pulling the six-month average down to 278,200. Still, that’s about 100,000 above the pre-pandemic 3-year average. And the unemployment rate ticked down to 3.6% in June.

Job growth has clearly cooled from the very strong pace of ’21 and ’22 but isn’t slow by nearly any measure (headline job growth, unemployment rate, wages, etc.). It’s reinforced by many other labor figures, such as weekly jobless claims and the so-called quit rate.

That reflects a resilient economy and jives with the broader inflation situation, which is similarly cooler than the blistering pace of ’21 and ’22 but remains well above anyone’s comfort level. Accordingly, we believe the Federal Reserve (Fed) will hike rates by a quarter point (0.25%) in three weeks. Based strictly on job growth, another hike is warranted; however, there are two key inflation gauges coming ahead of the Fed’s meeting on July 26th that will factor prominently in the “hike/pause” calculation. 

  Change in payrolls: June – 209,000; Prior month – 306,000; and 6-month average 278,200. Pre-pandemic 3-year average was 177K/mo. Net revisions decreased the April and May tallies by 110K. Unemployment rate (U-3): June 3.6%; Prior month 3.7% and six-month average 3.5%. It’s bounced around for a year, though has remained above the cycle low of 3.4%. Roughly 133,000 workers re-entered the workforce in June. Labor force participation rate: June 62.6%; Prior month 62.6% and six-month average 62.5%. Unchanged for four straight months and remains 0.7 percentage points below the December 2019 level. Average hourly earnings (YoY): June 4.4%; Prior month 4.4% and six-month average 4.4%. The monthly pace rose to 0.4%, same for non-supervisory workers. The annual pace for non-supervisory workers slipped to 4.7% from 4.9%. Average weekly hours worked: June 34.4%; Prior month 34.3% and six-month average 34.4%. Edged upward in June but has held fairly steady. Manufacturing hours stayed at 40.1, as did overtime hours at 3..0. Data source: Truist IAG, Bloomberg, Bureau of Labor Statistics

A review of the major industry trends

Private payrolls increased by 149,000, while government payrolls added 60,000. Service-providing industries added 120,000 workers, the fewest in 30 months, and goods producers chipped in 29,000 workers.

Our first observation is that leisure & hospitality was uncharacteristically weak, especially for a summer month. Restaurants actually lost workers (800), which isn’t a lot but is their first net job loss in 30 months – again, especially unusual for the summer. Hotels added 6,000 in June and shed workers in March and April for just 4,000 net job gains over the past four months.

Additionally, temporary help services lost 12,600 workers in June and has declined in six of the past eight months, cutting 129,000 workers combined. Fewer temporary workers are generally a sign of weakness and vice versa. (It’s tucked within professional & business services.)

Within manufacturing, nondurables manufacturers – such as food, apparel, and packaging – shed workers for the fourth month in a row, losing 26,000 workers over that span. Meanwhile, durable goods manufacturers – think autos, furniture, and appliances – have continued to add, albeit at a slower pace.

Education added 44,000 in June, the most in five months. This was evenly split between local and state public schools, hiring 17,000 and 20,000, respectively, with the remainder (7,000) from private education services.

Construction added 23,000 in June. Nearly half (10,000) were hired by residential specialty trade contractors. Also, residential building construction added 1,000 workers in June, the first increase in four months

Unemployment rate dipped, while wages and hours worked held steady

The unemployment rate fell by 0.1 to 3.6% in June, although it is up from the cycle low of 3.4%, which was also the lowest level since May 1969. However, the broader underemployment rate (U-6) rose to 6.9%, it’s highest level in 10 months, as the number of non-voluntary part-time workers increased by the most since the pandemic.

The labor force added 133,000 workers in June and has increased by 1.9 million this year. The labor force participation rate held steady at 62.6% for the fourth consecutive month. Still, it remains 0.7 percentage points below the December 2019 level.

Hours worked—officially known as average weekly hours worked for all employees—edged up to 34.4, which is roughly in-line with the pre-pandemic 10-year average. Within manufacturing, hours worked held steady at 40.1 for the third straight month, while overtime hours stayed at 3.0 for the sixth month in a row. Both remain roughly in-line with their respective long-term averages.

Average hourly earnings rose 0.4% month over month in June, which is slightly higher than previously reported (as May and April were revised higher). The annual pace increased 4.4% from a year ago as it continued to steadily decline from the 2022 peak of 5.9%. Despite the recent cooling, it remains well above the pre-pandemic 10-year average of 2.4%.

The pace of average hourly earnings for rank & file workers—officially known as production & nonsupervisory employees—also rose 0.4% during June. It rose 4.7% on a year-over-year basis, significantly above its pre-pandemic rate of 3.2%. This is important since production & nonsupervisory employees are the bulk of all employees and where most of the dramatic post-pandemic wage gains have been concentrated.

Our take

This is yet another solid jobs report. While it is cooler than the very strong pace of the past few years, it isn’t slow. The six-month average is 278,200 – literally 100,000 above the pre-pandemic 3-year average of 177,000. The unemployment rate is hovering near a 50-year low. Wages are still growing at nearly double the pre-pandemic 10-year average.

That strength is reinforced by a raft of other labor figures, such as weekly jobless claims and the so-called quit rate. We’re also hearing of fewer layoffs. The Challenger job cut announcements dropped to 40,709 in June, the lowest in eight months.

We acknowledge that these figures don’t seem to comport with the news headlines nor the constant drumbeat of recession worries. We, too, are concerned that many of the leading indicators are pointing downward and that some of the broader economic data has been lackluster.

While the economy isn’t collapsing, most of the incoming economic data isn’t strengthening either. In fact, the latest manufacturing data weakened considerably and has been contracting

It is possible that the U.S. could skirt a recession. It’s becoming increasingly plausible that we may only see one negative quarter of gross domestic product (GDP). That said, it would be unprecedented to avoid a recession with weakening leading indicators, higher interest rates, and tighter financial and credit conditions.

Hence, we maintain our view that the coming economic slowdown will be relatively mild compared to the Great Financial Crisis and Pandemic recessions. We anticipate a continued gradual weakening of the economy rather than a sudden downshift.

With respect to the Fed, the broader inflation situation hasn’t improved much. While it’s clearly cooler than the blistering pace of ’21 and ’22, it remains well above anyone’s comfort level. Based strictly on labor market conditions, we think that another hike is warranted. However, the rate-setting decision isn’t just about labor market conditions. For instance, two services sector reports for June (the ISM Services Index and S&P Global’s U.S. Services Index) both showed multi-month high readings. Accordingly, we believe the Fed will hike rates by a quarter point (0.25%) in three weeks.

Lastly, there are two key inflation gauges coming ahead of the Fed’s meeting on July 26th. June retail sales will also be released as will housing data, which has improved despite higher mortgage rates. All of these data points (and more) will factor prominently in the “hike/pause” calculation. Another hike isn’t a slam dunk, but we believe that the Fed will raise rates in July. 

To read the publication in its entirety, including supporting charts, select "Download PDF," below.

The latest research & insights Related resources