April job growth at 164,000 came in below estimate, but the underlying elements of the report imply the labor market remains in good shape. The unemployment rate declined to 3.9%, wage growth remained unchanged at 2.6% year over year for a third month straight, and the employment rate of prime aged workers held steady at 79.2%.
The Fed now sees both price inflation and the labor market at the point it wants them to be. The Fed is poised to raise rates by a quarter point in June, while ongoing trade tensions remain a key risk to the economy. The trade deficit narrowed sharply in March as exports rose and import fell, but trade tensions remained high, especially with the rising deficits with China and Mexico. For now, The Trump administration averted a self-imposed trade shock by extending the steel and aluminum tariffs exemptions but at the same time has also reportedly asked China to cut its trade deficit with the U.S. by $200 billion by the end of 2020 (The deficit stood at $375 billion last year, implying a little above 50% drop in the surplus.)
With the Exception of Wage Gains, the Labor Market Remains in Good Shape
The U.S. economy added 164,000 nonfarm payroll jobs in April, a bit below our (and consensus) expectation of 200,000. But with cumulative revisions to the previous two months--which were 30,000 jobs more than previously reported--the average for the past three months stood at a healthy 208,000. On balance, adding about 200,000 jobs per month is a robust outcome given where we are in the cycle. With labor force growing at a pace half as fast, the current sizeable monthly gains will continue to lower the unemployment rate.
The gains in April were more or less broad based across sectors (excluding wholesale trade), led by professional and business services (54,000). A solid showing for the manufacturing sector, which added 24,000 jobs--a trend that has been occurring since last summer--and work-week hours including overtime edging up over the month suggest machines are humming. An increase in the hours is a sign that more hiring may be in store in the coming months to fulfill orders. These solid gains in the manufacturing sector are partially thanks to a fall in the inventory-to-sales ratio, causing an increase in orders to stock up for future sales, and partially related to pick-up in exports. The risk here is, of course, that potential disruptions from trade policies could unnecessarily derail gains in this sector prematurely.
The unemployment rate declined to an 18-year low of 3.9% after holding steady at 4.1% for six consecutive months, but this reflected a drop in participation more than anything else. The broader U-6 measure of unemployment fell to a 17-year low of 7.8% from 8.0%. Average annual hourly earnings were up 4 cents, translating to a 2.6% year-over-year rise (for the third month in a row) and implying that the relationship between the decline in the unemployment rate and wage gains is quite flat. This continued lack of acceleration in wages is one indirect indicator that some labor-market slack remains. With consumer price inflation running at 2.4% year over year (according to March data), this means paychecks are running only slightly ahead of price gains.
That said, while wages reported in the employment report have not been able to break out of the 2.4%-2.8% range (since 2016), the wages and salaries component of the Employment Cost Index--a better measure of cost pressure on the books of businesses--jumped 1% in the first quarter to a 2.9% year-over-year gain, which is the largest advance since the third quarter of 2008. On a more forward-looking basis, a survey of small firms shows that the share of small firms planning to raise workers' compensation has reached a record high. With firms reporting that jobs are exceptionally hard to fill and the Fed's Beige Book reporting widespread labor shortages, this is no surprise, and we anticipate wage growth to rise over the year, albeit gradually.
Another indicator of slack--a more direct one than wages--the employment-to-population ratio of prime-aged workers (25-54), held steady at 79.2% in April and is still running about a percentage point below prerecession levels, implying some potential extra supply can be pulled into the labor market. Recent research suggests that some of these workers face significant barriers to joining even a hot job market, including health/skill deficits, criminal records, and long periods of joblessness (called the "scarring effect"). Another well-documented reason is that degree of labor mobility in the U.S. has declined, in part because much of the potential labor force lives in areas where job availability is still too low. So, along with continued tightening of the job market (the cyclical effect), other interventions, including training, apprenticeships, and direct job creation, will be needed to help them overcome these structural barriers.
We expect continued job gains will push the economy further below full employment to a 3.7% unemployment rate by the fourth quarter of this year and, in tandem, place steady, but gradual, pressure on wages to rise.
From the Fed's Corner
Against this backdrop, the Fed is poised to raise rates three more times this year--the first one likely coming in June--while ongoing trade tensions remain a key risk to the economy.
Following their May 1-2 meeting, the Federal Open Market Committee (FOMC) held policy rates steady, as expected, at 1.5%-1.75%. It made no updates to the economic or "dot plot" interest-rate forecasts and held no post-meeting press conference, so the focus was on the policy statement. In the statement immediately following the meeting, members acknowledged that inflation moved closer to the 2% target (see chart 2) and that economic activity slowed its pace in the first quarter (2.3% annualized quarterly real GDP growth following a 2.9% growth in the fourth quarter, a slowdown in large part because of a moderation in consumer spending).