Trend watch and what’s new this week
First, our hearts are with those dealing with the aftermath of Hurricane Idalia, which barreled through the southeast. It has only just begun to ripple through the activity-based data (slides 5 and 6). For instance, dining reservations plunged in Florida (-24% compared to 2022 levels), South Carolina (-37%), Georgia (-17%), and North Carolina (-15%). Idalia will continue to cycle through the data first as evacuations but then as clean up and repair efforts ramp up over the coming weeks.
Job growth cooled in August, unemployment rate jumped
U.S. payrolls in August added 187,000 jobs, just ahead of the consensus expectations of 170,000. Two of the major industry groups – information and mining & logging – slashed payrolls during August (slide 7). Also, the unemployment rate jumped to 3.8% in August. That’s up 0.4 percentage points from the cycle low of 3.4%. More importantly, it is just shy of an increase of 0.5 percentage points, which is widely regarded as a recession flag.
That was coupled with sizable downward revisions to the prior two months, knocking the six-month average down to 194,000 from 222,500 (slide 8). It was accompanied by further signs of cooling, including a dramatic cooling of wage gains (slide 9). These are corroborated by other labor figures, such as the stepdown in job openings and the quit rate, and a spike in job cut announcements. The lone outlier is weekly jobless claims, which haven’t budged.
Supplementary labor data mixed, but above prior levels
On slide 10, the number of job openings dropped 3.7% in July to 8.8 million, the 11th decline in the past 16 months. Hiring fell 2.8% to 5.8 million. Openings and hiring remain above pre-pandemic levels. Meanwhile, the so-called quit rate – officially known as the percentage of employees voluntarily quitting – slipped to 2.3% from 2.6% in May, and down from the cycle peak of 3% in 2022. It is now in-line with the pre-pandemic level.
The Fed’s favorite gauge showed inflation remains sticky
On slide 11, the Fed’s favorite inflation gauge—the price index of core personal consumption expenditures (core PCE)—rose 0.2% in July and increased 4.2% from a year ago. It’s moving in the right direction and is down from its March ’22 high of 5.4%. Ultimately, inflation remains uncomfortably high and well above the Fed’s 2% target, and likely contributes to the case for the Fed to pause but not stop rate hikes.
Revisions to business inventories lower 2Q growth
On slide 12, real GDP growth in the second quarter was revised downward to 2.1% on an annualized basis from the initially reported 2.4% pace. The biggest contributor in the second quarter was consumer spending followed by business spending. However, there were downward revisions to business inventories, business spending, and net exports.
On its face, August was another solid jobs report – marked by job growth above the long-term average, an unemployment rate significantly below 5%, and wage growth still well-above the pre-pandemic trend. But within the broader context of the past few years, it showed a deceleration almost across the board.
Additionally, the revisions were significant; most notably, June’s job growth was lowered to 105,000, which is essentially stall speed. That’s barely enough to keep such a large economy afloat and the unemployment rate stable. A 100,000 per month is the economic equivalent of the Mendoza line, a baseball term for when a major league player is typically sent down to the minors or released for having such a poor batting average. Furthermore, it’s a danger zone for job growth, whereby outright job losses have often happened historically after crossing below 100,000.
These cooling trends were corroborated by other labor figures, such as the stepdown in job openings and the quit rate, and a spike in job cut announcements. In fact, the decline in the quit rate signals that the so-called “Great Resignation” appears to be over. The lone outlier is weekly jobless claims, which haven’t budged.
As we mentioned last month, a so-called soft landing of the U.S. economy does appear possible. Yet, it also undercuts the soft-landing thesis – that the economy is resilient enough to avoid a recession, especially with the jump in the unemployment rate and headline job growth dipping near the Mendoza line. Naturally, some might say, “yes, June job growth slowed but it reaccelerated in July and August.” To which our reply is – July and August haven’t been revised yet. Lest we forget, June was quite literally cut in half to 105,000 from the originally reported 209,000. Again, most recessions initially look like a soft landing with very few exceptions (like 2020). The economic data cools and conditions look fairly stable until they don’t.
It would be unprecedented to avoid a recession with weakening leading indicators, higher interest rates, and tighter financial and credit conditions. Many of the leading indicators are pointing downward and have been for more than a year. Moreover, most of the incoming economic data has been decelerating, not strengthening. That said, we don’t anticipate a sudden collapse in economic activity and don’t view the economy as overly weak. Regardless, it’s certainly not as strong as many of the soft-landing bulls are projecting.
Ultimately, we believe labor market conditions have cooled enough to allow the Fed to continue holding rates steady in September, letting them assess the overall economy. While it’s clearly cooler than the blistering pace of 2021 and 2022, inflation remains well above anyone’s comfort level. At the very least, the Fed will need to maintain rates, though it’s still possible additional rate hikes will be needed to curb inflation if price trends don’t cooperate.
A shallow recession remains our base case as dramatically higher interest rates and tighter credit conditions ratchet up stress on consumers and businesses going forward. This now includes restarting student loan payments later this year as a result of the recent federal debt deal. We also believe that the Fed will keep interest rates higher for longer. Yet, a recession isn’t inevitable and the timing remains fluid.
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