Employment Report Disappoints but Probably Won’t Delay Federal Reserve’s Tapering Plan

The September employment report disappointed analysts; will it also complicate the Federal Reserve’s plan to begin withdrawing the monetary support that has cushioned the economy throughout the pandemic?

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Pity the poor Federal Reserve officials, fingers twitching over the interest rate trigger, countdown nearing “go,” forced once again to reassess whether the economic indicators are telling them it is still too soon to act.

Just two weeks ago Fed Chairman Janet Yellen had hinted strongly that a rate hike was likely, when she told a Harvard audience, “It is appropriate, as I’ve said in the past, for the Fed to gradually and cautiously increase our overnight interest rate over time. Probably in the coming months such a move would be appropriate.”

But with just about every other indicator flashing green, the jobs report turned bright red in May, as employers added only 38,000 workers, the smallest number in almost six years. Less than robust reports for March and April were revised downward, and the unemployment rate fell to 4.7 percent – another sign of weakness, reflecting a surge in workers leaving the job market.

Analysts, who had predicted that hiring would rebound from the past two reports, were uniformly surprised and disappointed. “Boy, this is ugly,” Diane Swonk, a Chicago economist, told the New York Times. The consensus view that the Fed would boost interest rates in June or July, veered back into uncertainty, with the new evidence that the economy may be weakening.

“The slowdown in job growth looks pretty pervasive across industries,” Michael Feroli, chief U.S. economist at JPMorgan Chase & Co., told Bloomberg News. “The easy thing to say is, this takes June off the table for a Fed hike,” he added. “To get to July, we’re going to need a pretty nice rebound in the data.”

The labor report wasn’t entirely dismal. Average hourly earnings increased by 0.2 percent, following a 0.4 percent April gain that was higher than initially estimated, boosting pay by 2.5 percent for the year. But it’s not at all clear that this improvement will offset concerns about the reluctance of business executives to increase their payrolls or boost investment.

Until the jobs report sprayed cold water on it, the economic forecast had seemed to be brightening. Among other positive signals:

  • First quarter GDP growth, at 0.8 percent, was stronger than initially reported.
  • Consumer spending also increased a lot more than expected, buoyed by small but steady income gains.
  • The May manufacturing report was a little stronger than expected – not robust, but encouraging, and industrial production also increased.
  • Jobless claims declined, suggesting to a much stronger labor report than the one we got.

Strength in Housing

Perhaps most encouraging to analysts, the housing market has been strengthening. Existing home sales remained in positive territory in April, with a 1.7 percent increase following the 5.5 percent gain reported for March. Pending sales of existing homes, a marker for future sales, increased for the third consecutive month, pushing this NAR index to its highest reading in more than three years, and indicating that, at least to some extent, buyers are overcoming the downdraft created by rising prices and sparse inventories of homes for sales.

“The building momentum from the over 14 million jobs created since 2010 and the prospect of facing higher rents and mortgage rates down the road appear to be bringing more interested buyers into the market, Lawrence Yun, chief economist for the National Association of Realtors (NAR) said.

Those interested buyers include first-time buyers, who have been largely missing from the housing recovery to date. They purchased 32 percent of the homes sold in April, according to the NAR. Another index (Campbell/Inside Mortgage Finance HousingPulse) put the first-time buyer share of the market at 38.9 percent. Both reflect significant improvement in a sector that has been woefully underrepresented.

Surveys of recent buyers have indicated that rising rents are largely responsible for bringing entry-level buyers into the housing market. The number of first time buyers has now increased for five consecutive months, according to Campbell Surveys, which reports that these buyers almost equal trade-up buyers as a percentage of the existing homes market, with investors accounting for about 15 percent.

New Home Sales

Modest gains in the existing home market were overshadowed by a 16.6 percent year-over year increase in new home sales ― the largest jump in 24 years. The annualized pace of 619,000 units reported by the Commerce Department blew well past a consensus forecast in the 525,000 range. Employment strength and wage increases, albeit modest ones, are boosting consumer confidence, encouraging them to “take the leap and buy the biggest of big ticket items of their lives,” Chris Rupkey, chief economist at New York-Based Union Bank, told Reuters. Other analysts cautioned that new home sales data are highly erratic and subject to often dramatic adjustments, up or down.

Starts and Permits

Housing starts increased by 6.6 percent in April, rebounding from a disappointing March dip, putting builders on a pace to create 1.16 million new homes this year. Permits, an indicator of future activity, reversed a four-month slide, increasing by 3.6 percent over a March estimate that was revised downward. Even with the April increase, permitting activity is still lagging the year-ago pace by more than 5 percent, according to Commerce Department reports.

“Builders are constructing “only about half as many homes as we should be in a normal market,” Zillow chief economist Svenja Gudell said in a press release. “There still aren't enough homes on the market to keep up with the high demand from every type of homebuyer," she added.

The construction lag is likely to get worse. Builders who say they would like to build more homes are reporting that they are having trouble finding lots on which to place them. More than 60 percent of the builders responding to a monthly survey described the supply of available lots in their markets as either “low” or “very low, reflecting the tightest supply in almost 20 ears, according to the National Association of Home Builders (NAHB) which conducted the survey.

With inventories of existing home tight and construction activity lagging, home prices are rising steadily – too steadily for many analysts, who fear the negative impact on housing affordability. Home prices, as measured by the S&P/Case-Shiller index, are now close to the record highs they reached before the housing market crashed in 2007. That represents a 30 percent increase from the bottom of the market in 2012.

“It’s a great market if you have pristine credit and lots of money,” Sean Becketti, chief economist at Freddie Mac, told the Wall Street Journal. “The people starting out who are looking for that first home—they’re having a tougher time.”