The August Employment Jinx Continues

For so much news, equity markets barely budged this week, with small gains in the United States and slightly better gains in Europe. As the Russian-Ukraine situation calmed, the safe haven status of U.S. bonds lost some of its cachet, and rates moved higher. Emerging markets were a beneficiary of reduced risk, showing some of the best equity gains of the week. Conversely, easing tensions helped push commodities down by almost 2%.

Except for odd employment report for August, other U.S. data was unabashedly bullish. Auto sales had their best month since 2006 and shellacked expectations. Construction spending was up sharply, and weekly shopping center data was surprisingly strong, too. Purchasing manager data for both services and manufacturing were also surprisingly strong and extended multimonth runs.

Even the news on the employment front wasn't all bad, as Challenger Gray layoff data, weekly unemployment claims data, and the ADP employment report all showed far better results than the official government report released Friday. The strong U.S. data probably contributed to the sharp move back in interest rates this week to 2.46% from 2.35% a week ago.

The European Central Bank cut rates again and offered to buy some securities to help restart their economy. However, I don't expect these to be terribly effective. A lower euro will make Europeans a lot more competitive, but until real structural changes are made, it may be hard for Europe to get out of its rut.

The August Employment Report Appears to Be Yet Another Fluke
The August jobs report showed employment grew by a puny 142,000 workers compared with the 207,000 workers added on average for the prior 12 months. The figure was well below the consensus of 228,000 jobs and even my more modest forecast of 200,000 jobs.

I view these poor results as another example of the perils of assessing a single month's data in isolation and the massively difficult job of doing seasonal adjustment factors in an ever-changing world. The poor August figures say nothing about the real state of the economy and aren't likely to have any effect on Federal Reserve Policy decisions. The August report is not consistent with other improving labor market reports, including the employment sections of most purchasing manager reports, the Job Openings and Labor Turnover Report, the Challenger Gray layoffs report, initial unemployment claims, and even improving hourly wages within the same report.

The August report is particularly difficult because of changing back-to-school policies and constantly evolving auto industry shutdown policies. August has been a very tough month overall, with the lowest number of average job gains during the past four years.

It has also been one of the most revised months from first report to final number. I will never forget August 2011, when not a single job was added, according to the original report. That originally reported zero gain was eventually revised to a gain of 121,000 jobs.

All of this is even before we get to a labor dispute that took about 25,000 people out of the August report who are likely to show up again in September. All of these factors are why I use averaged data (which takes out quick one-month reversals and special cases) on a year-over-year basis (which mutes the seasonal factor game). The picture here is more of the same.

Year-over-year, three-month averaged employment data showed private-sector employment growth of 2.1%, matching its 12-month average. Employment growth has been between 2.0% and 2.2% all the way back to 2011. Looked at this way, the jobs data is consistent with consumption growth (averaging about 2.2%) and GDP (projected at between 2.0% and 2.5% for all of 2014).

Besides raw numbers of jobs added, it's important to look at hours-worked data and hourly wage data. Hours worked overall were flat (however, most categories were up), as they usually are at this stage of a recovery. Early in the recovery, jobs grow slower but hours worked move up quickly as employers, burned by the recession, work current workers harder rather than hire more workers.

Average hourly wages increased $0.06 to $24.53, one of the bigger gains of 2014. There were also some upward revisions to prior months' data, so things don't look quite as bleak as they did just two months ago when there was no wage growth as originally reported. Again, the year-over-year data tell a much more consistent story, with growth of around 2% in the hourly wage. Rolling together employment, hourly wages, and hours worked, growth remains stuck at about the 4% level.

The bad side to all of this is that while total wages seem to be accelerating, inflation continues to take its toll. Inflation was unusually low last fall and winter, but that pattern has now reversed itself. Inflation had dipped close to just 1%, but it is now pushing 2%. That more than erases the recent gains in nominal total wages and paints a dreary but not disastrous picture. Inflation-adjusted wage gains have been trending down since November, more because of rising inflation than new employer stinginess.

In sum, the employment report was not the game-changer that many are portraying it to be. Job growth, hours worked, and better hourly wages looked at on a year-over-year basis suggest painfully slow but steady gains. Unfortunately, inflation has eroded some of those benefits, and that is probably the real news in all of this data.

There were two other supplemental reports from private sources that showed continued wage growth and the emergence of some spot labor market shortages. Along with this month's normal layoff report, Challenger Gray (which showed nice declines in month-to-month and year-over-year layoffs) issued a special report on labor market shortages, a subject near and dear to my heart for some time. The report suggested that 77% of those surveyed had some difficulty filling some slots. About 45% of those surveyed show shortages for technology workers of all types. Financial types (I am guessing especially accountants) were in shortage for 30% of all respondents. Many firms are now offering incentives to employees for bringing in new recruits. The report went on to mention that many accountants in Detroit were getting $5,000 incentive bonuses despite an overall employment rate that exceeds 9%.

The conference board also issued a new report, this one indicating that employers surveyed planned to raise wages 3% in 2015, in line with what this same group had projected for the previous three years. That's quite consistent with slow and steady growth for the economy. However, the rate of inflation will determine how far those wages will go. Still, I suspect spot shortages could push wages higher in some categories, but that's not what these employers are anticipating, with wage increases nearly identical in every business segment. Maybe they will keep core pay rates the same and offer more spot incentives that don't push up the overall wage rate.

Auto Sales a Big Upside Surprise
I have always been fond of looking at auto data as a key indicator of consumer confidence. Unlike a purchase at the mall, a car purchase is a bigger commitment and generally requires a job and a positive outlook. Sales of 17.5 million units widely exceeded estimates of 16.6 million units on a seasonally adjusted, annual rate basis for August. The number has a certain too-good-to-be-true ring to it, but I can't find an analysis that suggests anything is amiss. On the other hand, I haven't seen auto analysts racing to increase their annualized forecasts of 16.0 million-16.5 million units. Maybe it will take a little time for the good news to settle in. The strong auto number for August, combined with a decent July, suggests that the consumption numbers for August could be eye-popping, even if conventional retail sales remain under the weather. Auto analyst David Whiston offered his take on the data:

Automakers reported a very healthy month for U.S. new light-vehicle sales for August. The seasonally adjusted annualized selling rate came in at 17.5 million, according to Automotive News, up 5.5% from August 2013. The SAAR was the highest of the year and best since 17.63 million in January 2006. We expect continued healthy demand for the rest of the year with pricing remaining healthy--a key consideration in addition to volume. TrueCar said August average transaction prices rose 2.4% year over year to $31,610 with  General Motors (GM) comfortably leading the industry with a 12.9% increase. The ratio of incentives to average transaction price declined 10 basis points in August compared with July, to 8.8%. Pricing gains exceeding increases in incentive spending suggest good potential for margin expansion in quarterly results.

By the way, it would be highly unusual for auto sales to soar if the August employment report was as weak as the headline data suggests. Strong auto sales also sometimes slow sales in conventional retail stores (diversion of time and cash while shopping for a car). We are already seeing some of that softness.

ECB Takes More Action
This week the European Central Bank took more action to ease monetary policy in the eurozone in response to quickly falling inflation rates and a stagnating economy. The new set of policies will kick in before some of the policies in the last easing were even implemented.

The ECB announced it was reducing several key lending rates and raising the amount it charges banks leaving reserve balances at the central bank. It also revealed that it would be purchasing some covered bonds and asset-based securities. The details on the new programs were sketchy as to timing and amount. Although these were significant and unexpected actions, the ECB did not make the full move to purchase government securities in the area (so-called quantitative easing, or QE). Indeed, by charter, it would be difficult if not impossible for the central bank to buy sovereign debt, a move Germany strongly opposes.

In the short run, all of these moves could modestly help the European economy. However, I fail to see how moving interest rates that are already so near zero by small fractions is going to change much. Programs to encourage lending, to be implemented shortly, could help slightly more. Furthermore, lower rates, soft economies, and the potential for further moves reduced longer-term corporate and sovereign debt rates. Again helpful, but not definitive.

However, lower rates in general have really begun to pressure the euro, which fell below the key benchmark of 1.3 to the dollar from a high of close to 1.5. Although I am not a believer, some are now projecting the euro could drop to parity ($1 for one euro). A lower euro would be great news for exports, but not such great news for the United States, which competes with Europe in several markets. A drastic change in the euro is a game-changer, if it were to occur. Lower rates and slow growth suggest that a drastically lower euro is a possibility. However, with the eurozone currently in an overall trade surplus, I just don't see a free-fall in the cards.

I am also a strict believer that monetary easing cannot erase the harmful effects of bad policies. France clearly has tax issues; Italy, employment issues; and Germany, a lack of internal consumption growth, which all must be tackled if the European economy is to resume anything like normal growth. I am not seeing much action on these fronts, which makes me a bit pessimistic about the European situation.

Purchasing Managers Remain Optimistic
This week we got the ISM purchasing manager reports for both manufacturers and nonmanufacturers, and both looked strong, built on strength of prior months. The manufacturing report has a much longer track record and the news here was very good. The index increased from 57.1 to 59.0, its best reading since 2011. The index began a steady improvement in February and has now moved all the way up from a low of 51.6.

Lately, the ISM has been a great predictor of the recent improvement in industrial production (admittedly, this index wasn't such a great forecaster in 2012 and 2013 after a great 60-year-plus track record). This week's strong reading should mean more good news for manufacturers and industrial production in the months ahead. Fortunately, the improvement was relatively broad-based, too, with 17 of 18 industries in growth mode (only textiles were down).

The nonmanufacturing index was even stronger, with a reading of 59.6, up from 58.7 the prior month and its highest reading since ISM began tracking the services sector in 2008. Most economists had expected the index to pull back this month after hitting a record high in July. The new order portion of the index was a very strong 63.8, although that was down just a touch from the prior month. Most notably, the employment section of this report surged 1.1 points to 57.1, which should bode well for future employment reports.

Improving Trade Gap Could Mean Trade Will Add to Third-Quarter GDP
The trade report for July was a pleasant surprise, showing a decline in the deficit to $40.5 billion even as the trade deficit was revised nicely downward. For the single month of July, exports were up 0.9%, while imports were up a smaller 0.7%. Both auto imports and exports did exceptionally well, which makes sense given the strong auto report we saw for August. The longer view, using year-over-year data, suggests that exports are stuck in a bit of a rut (lower agricultural exports weighing on improved petroleum shipments), while imports continue to move in reverse, mostly but not entirely because of lower oil imports.

Though the new iPhone could hurt the trade deficit, at least temporarily, it still seems that based on the July report, and the fact that the deficit declined in each month of the second quarter, trade could be a significant adder to GDP in the third quarter after a couple of quarters of harsh results.

Thin News Flow Next Week
Things are very calm next week until Friday, when the retail sales report for August is released. The news on retail sales for July was terrible, with no growth at all. The retail data has been especially volatile with good and bad months each taking their turn. However, good weekly shopping center data, better incomes, and a great auto report have economists in an optimistic mood, with expectations for growth of 0.6% for August. I don't think all the data has been adjusted for the strong auto sales report, so that may actually be low.

Two smaller reports are also due: the job openings report and small-business confidence. Given the poor jobs report on Friday, the job openings report will be watched a little more closely. Openings have been growing at a steady and accelerating pace, though hiring hasn't improved much. I will also be looking at the small-business confidence report, especially the hiring difficulty portion.