US Jobs Market Takes Center Stage Amid Macro Angst

If the Fed’s goal is to engineer a reverse wealth effect by tightening financial conditions such that stocks retreat and the pace of home price appreciation cools, policymakers have had some success.

As the second half dawns, equities are coming off the worst start to a calendar year since 1970, and although home prices remain buoyant, it’s just a matter of time before the kind of seller concessions seen in select locales become a fixture of the market nationwide.

In short: The $40 trillion bonanza US investors and homeowners enjoyed from Q2 of 2020 to Q4 of 2021 is over. The Fed wants some of that money back given the distinct possibility it contributed to generationally high inflation.

In addition to sharply lower stocks and sharply higher mortgage rates, policy angst is also manifesting in credit, while references to rate hikes are making cameos in corporate guidance. Just about the only place Fed tightening isn’t showing up is in the labor market, which takes center stage in the holiday-shortened week ahead.

Consensus expects 275,000 from June’s headline NFP print (figure below). That’d be among the slowest months for job creation yet in the pandemic era, even as it’d still count as robust.

Recall that May’s NFP report came in hot, and there’s certainly scope for a “good news is bad news” interpretation of the numbers, to the extent ongoing labor market strength green lights Fed hikes.

In the June SEP, the Fed politely nodded to the purported necessity of pushing up the unemployment rate to help bring down inflation, but their projections were mercilessly lampooned as wishful thinking. Specifically, the notion that 8.6% headline CPI inflation can be brought to heel by a rise in the unemployment rate from 3.6% to a still very low 4.1% over two years is laughable on a conventional read.

That’s not to suggest a conventional reading is appropriate. As regular readers are well apprised, I’m the last person you’d want to talk to if you consider economics to be a hard science, which means I’m the first person to cast a wary eye at the notion that bringing inflation down “requires” job losses.

At the same time, it’s important we don’t sugarcoat the issue. In the absence of swift resolutions to the myriad supply factors which account for around half of America’s inflation overshoot, demand needs to cool. Addressing the supply side requires political solutions which aren’t forthcoming, so the Fed is left to lean into the demand side, an effort which entails, among other things, forcing the labor market back into balance so that competition for workers isn’t so fierce as to exacerbate inflation through the wage channel.

Ideally, a decelerating economy will compel employers to reduce hiring, thereby closing the yawning gap between job openings and Americans counted as unemployed. That gap, which Jerome Powell cites habitually, implies there are nearly two jobs for every unemployed person (figure below).

In theory — and I emphasize “theory” — that ratio could be coaxed down to 1:1, obviating the need for the economy to shed jobs on the path to lower inflation.

It’s with that in mind that market participants will get a new set of JOLTS figures on Wednesday. I’ve mentioned this previously, but at some point, it’s likely that the headline JOLTS print will undershoot consensus materially, an abrupt about-face in the post-pandemic context, defined as it is by too many job openings and not enough labor.

If (or when) that finally happens, it’ll be interesting to see how it’s interpreted. Ostensibly, a big decline in job openings should be welcome news as it’d suggest a key inflation facilitator is abating. However, there’s a chance traders and investors would view it entirely through the recession lens — that is, they’d view any sizable drop in job openings as evidence to support dour narratives about the outlook for the economy.

Whatever the case, that’s not this week’s story. Job openings will remain elevated, and the gap with hires anomalously wide. It’s just a matter of how wide, and then, two days later, how hot (or not) June’s average hourly earnings print is, and whether the jobless rate stays stuck at levels consistent with an overheating labor market.

“Fundamentally, the importance of the labor market as the economic cycle appears poised to turn is extremely meaningful as a gauge of the forward path of consumption,” BMO’s Ian Lyngen and Ben Jeffery wrote, noting that with consumer sentiment severely depressed and real wage growth deeply negative, “adding job insecurity to the picture will only serve to extend the angst of investors and consumers alike.”

That said, they quickly addressed the read-through for the Fed. Notwithstanding a slow drift higher in initial claims, it’s probably too early for a big NFP miss, especially considering the economy remains generally short of workers. But what about a “marginally disappointing” NFP headline paired with an uptick on the jobless rate? “This is where it quickly becomes complicated,” Lyngen and Jeffery said. “Isn’t such an outcome exactly what the Fed ‘wants’ to help cool the hot labor market and curtail inflation?” they wondered, before answering their own question and posing another. “Yes, but what if the real economy is already in a recession?”

That’s a testament to the ambiguous nature of the macro right now, something Goldman’s David Kostin underscored in his latest. “Our S&P 500 six-month forecast at the start of the year was 5,000 and assumed a stable P/E supported by decelerating inflation, a measured pace of Fed tightening and a modest rise in Treasury yields,” he wrote. “Instead, the P/E multiple compressed by 24% and the index sank by 21%, destroying $8 trillion of equity market cap in the process.” Macro developments in 2022, Kostin remarked, “have been nearly impossible to predict.”

Sandwiched between Wednesday morning’s JOLTS figures and Friday’s jobs report are the June FOMC minutes. It’s unlikely that expectations for July’s meeting will change irrespective of this week’s developments. 75bps is seen as a done deal by most market participants, even as terminal rate pricing has come down materially. Markets are now pricing in a trio of rate cuts for 2023. That’s all part and parcel of the same general thesis: The Fed’s front-loading set against a decelerating economy will likely tip the US into recession, forcing a pivot within 12 months.

Also on deck this week: Factory orders, ISM services, consumer credit and remarks from Williams, Waller and Bullard.