by Lance Roberts
I have been asked quite a bit as of late as to my opinion about the June jobs report to be released on Friday, July 5th. The current estimate, according to Econoday, is for 161,000 jobs to be created in June with a range of 145,000 to 200,000. There are several reasons that I believe that this number could well come in below current expectations.
First, job creation, since the end of the last recession, has been a function of population growth as shown in the chart below.
Employment is ultimately created by either increasing aggregate end demand or by expectations of stronger demand in the near future. Business owners are sensitive to employment as it is a major cost of any business which directly impacts profitability. Therefore, after the financial crisis, employers shed jobs as rapidly as possible, increased productivity and extended working hours to meet demand while increasing profitability. However, as shown in the chart above, employment increases have mostly been about the incremental demand increase caused by population growth.
Currently, weak economic forecasts caused by uncertainty surrounding fiscal policy keeps businesses focused on minimizing costs by increasing productivity and minimizing employment. These actions have been instrumental in the record levels of corporate profits generated per employee.
With the Affordable Care Act (ACA) looming just ahead, higher current tax rates and reduce tax incentives in the future; it is not surprising to see businesses opting for temporary/part-time hires to reduce the costs associated with full-time hires. Currently, full-time employment relative to the population remains near the recessionary lows.
The decline in jobless claims, which has been a "rallying cry" by mainstream analysts for the elusive economic recovery, is due more to the effect of "labor hoarding" than due to increases in employment. Corporations have simply run out of people to "fire" and are now being forced to modestly increase wages to retain quality employees.
This brings me to the 3 reasons why I think the June jobs report could be a disappointment.
1) Reduced Demand
The recent negative revision to GDP, from an initial read of 2.5% to a final print of 1.8%, is continued evidence of slow economic growth. The negative revision was almost entirely focused in the consumer spending component of the economic calculation which is a bulk of the demand driver for businesses. The weaker read on consumption is likely to have led to not only weaker employment in June but also, potentially, negative revisions to the April and May data as well. The chart below shows the correlation between the annual changes in PCE and Employment. The current negative trend in PCE is likely to drag employment lower in the months ahead which could pose a serious issue to Bernanke's view to a strengthening economy and a reduction in liquidity programs.
2) Corporate Profits Have Likely Peaked
As I stated above the main driver of employment is increased end demand that leads to increased profitability. The problem currently, as I discussed recently, is that corporate profits have reached what seems to be a peak in growth. The chart below show both operating and reported earnings for the S&P 500.
With earnings growth slowing it is far more likely that corporations will become more defensive in their hiring in order to sustain profitability. Furthermore, with exports comprising roughly 40% of corporate profits, the Euro-zone recession, slowing in China and Japan's realization of the limits of "Abe-nomics" is negatively impacting profits, outlooks and employment.
3) "Muddling" Economy
Weak economic growth certainly does not inspire corporations to hire. The chart below shows the correlation between the annual changes in employment and the STA Composite Employment indicator (see here for detailed explanation) which is a composite indicator of the employment component of major economic surveys.
Currently at 15.60 the indicator is at its lowest levels since December of 2012 when the economy was barely growing as the "fiscal cliff" loomed. While there has been some pickup in hiring intentions in some of the latest manufacturing reports; these are more related to seasonal hiring tendencies and the need to meet demand growth from increased population.
While the mainstream analysts, and economists, continue to hope for a resurgence in the economy, and a return to full employment, the reality is that such a event is likely very far away. With 90 million people out of the work force, near record levels of individuals on food stamps, disability or other forms of government assistance and wages stagnant as the cost of living continues to rise - there are few indicators that would suggest a strong economic recovery in on the horizon.
It is currently expected that the "fiscal policy" drags from recent tax hikes, reductions in tax credits, and increased regulations will somehow dissipate as we head into 2014. The reality is that such fiscal drags take quite some time to filter into the economy and begin to take a toll on consumption. Furthermore, the onset of the ACA, going into the beginning of next year, has not been fully factored into economist's expectations. The higher costs of health care, benefits and regulations will likely have a much higher negative impact to profitability, employment and growth than what is currently factored in.
Lastly, it has been completely disregarded that we are now more than four (4) years into the current economic recovery. After trillions of dollars of stimulus, bailouts and artificial supports; expectations for a surge in economic growth are coming very late in this cycle. While it is clearly possible to delay an economic recession with enough monetary stimulus - it has yet to be proved that such events can be repealed.
For all of these reasons I suspect that the June report on Friday will be a disappointment of between 120-150K jobs with a surge in temporary hires. However, employment numbers in the current month are always "iffy" and subject to adjustments that cannot be accurately accounted for. However, what I am most interested in seeing is the revisions to prior employment estimates. If I am right - we are likely to see negative revisions in that data which would be a reflection of the continued slow growth economic environment that has been the hallmark of this recovery.
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