Goldman Raises December Rate Hike Odds To 80%

Having pointed out a glaring error in today"s payrolls report, which indicated that there was at least one math error in calculating the average hourly earnings number, and as a result casts doubt on every other piece of data released by the BLS, we urge algos and the handful of carbon-based traders, to take anything released by the BLS with a boulder of salt, especially data on wage inflation, until the BLS provides an explanation for what is going on.

Until then, here is Goldman methodically going "by the numbers", and validating the market"s reaction that sent December rate hike odds to the highest in one year, as moments ago Goldman chief economist, Jan Hatzius, revised his odds of a December hike from 75% to 80%.

Nonfarm payrolls fell 33k in September—considerably below expectations—however, we believe temporary hurricane effects likely explain all or most of the weakness. In fact, the employment report appears strong on net after taking into account hurricane effects, given the drop in the unemployment rate to a new cycle low and the upward revisions to average hourly earnings. We increased our Fed probabilities, with subjective odds of a December hike at 80% (vs. 75% previously).

And the breakdown:

1. Nonfarm payrolls fell by 33k in September—113k below expectations—and growth in prior months was revised down by 38k on net. However, we believe temporary hurricane effects likely explain all or most of the weakness. We had previously estimated a drag of 125k from hurricane effects, and it appears to have been even larger: the BLS commissioner reported “a sharp employment decline in food services and drinking places and below-trend growth in some other industries likely reflected the impact of Hurricanes Irma and Harvey” (food service employment alone fell by 105k). Gauging the magnitude of the impact is difficult, but given the commissioner’s statement and given the sharp rise in the household “not at work due to weather” series, our working assumption is that all or most of the weakness was hurricane-related—and likely transitory. The state-level payrolls data released October 20th will provide substantial clarity on the magnitude of the impact. By industry, goods-producing industries added 9k jobs in September reflecting a rise in construction employment (+8k). Private service-providing employment fell 49k, as a 111k drop in leisure and hospitality payrolls was partially offset by growth in education and health (+27k) and trade, transportation, and utilities (+26k) jobs. Government payrolls rose 7k. The breadth of job gains weakened likely due to hurricane effects, with the payrolls diffusion index – the net share of industries adding jobs during the month – falling to 55.7% from 60.2%


2. The household measure of employment was very strong, rising 906k in September following the 74k decline in September. The 939k gap between employment growth in the household and payroll reports was the largest ever excluding months with level adjustments to population controls. Household employment on a population- and establishment survey-adjusted basis rose only 7k, as the numbers of workers on unpaid leave from their jobs—which are included in household employment but not in establishment employment—rose by 908k (SA), presumably largely driven by the hurricanes. The unemployment rate fell in September to 4.22% from 4.44%, as the surge in household jobs more than offset the increase in the participation rate to 63.1% (from 62.9%). While the unemployment rate may in principle have been pushed down by hurricane effects (for instance if the response rate drops more among unemployed), we think this is unlikely because the BLS noted that “there was no discernible effect on the national unemployment rate” and because historically natural disasters have led to moderate increases in the unemployment rate. Another reason to doubt that the decline in the unemployment rate was due to the hurricanes is that household employment was strong (as opposed to the labor labor force being weak). The broader U6 underemployment rate fell 3 tenths to 8.3%, as the shares of marginally attached and the U3 rate fell.


3. Average hourly earnings increased by a larger-than-expected 0.45% in September (mom), and a significant upward revision to July growth (+0.2pp to +0.5%) resulted in the year-over-year rate increased to +2.9% from a previously reported pace of +2.5% in August. While the composition effect due to the decline in the share of low-wage leisure and hospitality workers may have boosted September earnings, the upward revisions in prior months were large. Average weekly hours held steady at 34.4.


4. Our preliminary wage tracker—which distills signals from several wage measures—shows 2.4% for Q3, up from +2.2% in Q2.


5. We believe the headline payrolls miss is considerably less important than usual for the monetary policy outlook, because hurricanes clearly affected the data, other US growth data has been firm, and there are two more employment reports between now and the December meeting to make up for the weakness. We actually think the most important takeaway from the report was the upward revision to average hourly earnings, with wage growth now reported at just below 3%. Given this and given the drop in the unemployment rate to a new cycle low, we increased our Fed probabilities, with subjective odds of a December hike at 80% (vs. 75% previously).

Of course, if the BLS" wage growth calculation is wrong, everything changes. Until then, here"s a look at where the market-implied odds of a December hike are: not surprisingly... right at 80%.

Study Finds Higher Min. Wages Bring Crushing Job Losses For Female And Minority Workers

Anyone who has a basic understanding of elementary-level arithmetic and some common sense can easily explain why raising the minimum wage is bad for employment levels.  In a nutshell, higher labor costs simply improve the payback profile of capital investments in technology thus accelerating job losses.

We recently shared the following example regarding California"s minimum wage hike from $10 per hour to $15.  At $10 per hour and a 10-year payback, employers may be reluctant to invest in new technology.  But, at $15 per hour and a 6-years payback, that investment become a no-brainer.

 

Unfortunately, while these concepts are somewhat simplistic for most us, they have confounded left-leaning economists and politicians pretty much since the beginning of time.

And while no amount of empirical evidence will change their minds, here is yet another study, this time from Grace Lordan of the London School of Economics and David Neumark of UC Irvine, offering up evidence that raising minimum wages only serves to increase unemployment and disproportionately crushes female and minority low-income workers.

Entitled "People Versus Machines: The Impact of Minimum Wages on Automatable Jobs," the study found that each $1 increase in the minimum wage decreased the "share of lowskilled automatable jobs by 0.43 percentage point."  Here"s a summary of Lordan"s findings:

Overall, we find that increasing the minimum wage decreases significantly the share of automatable employment held by low-skilled workers. Our estimates suggest that an increase of the minimum wage by $1 (based on 2015 dollars) decreases the share of lowskilled automatable jobs by 0.43 percentage point (an elasticity of ?0.11). However, these average effects mask significant heterogeneity by industry and by demographic group. In particular, there are large effects on the shares of automatable employment in manufacturing, where we estimate that a $1 increase in the minimum wage decreases the share of automatable employment among low-skilled workers by 0.99 percentage point (elasticity of ?0.17). Within manufacturing, the share of older workers in automatable employment declines most sharply, and the share of workers in automatable employment also declines sharply for women and blacks.

Meanwhile, the results are even worse for workers over 40, females and minorities...

For example, a higher minimum wage significantly reduces the shares of both younger (? 25) and older (> 40) workers in jobs that are automatable, by a larger magnitude compared to those aged 26-39. For the younger and older groups, the estimates imply that a $1 increase in the minimum wage reduces the shares in automatable work by 0.94 and 0.72 percentage points respectively (the corresponding elasticities are ?0.20 and ?0.17. Looking by both age and industry, for older workers (? 40 years old) the negative effect mainly arises in the manufacturing and public administration sectors (a decrease of 1.68 and 3.50 percentage points for a $1 minimum wage increase respectively), while for younger workers (< 25 years old) the effects are large in many sectors but the estimate is close to zero for manufacturing. The middle age group, also, exhibits a decline in the share of workers in automatable jobs in manufacturing when the minimum wage increases – a 1.21 percentage point decline for a $1 increase. Thus, older workers appear more vulnerable to substitution away from automatable jobs when the minimum wage increases.

On average, females are affected more adversely than males: in the aggregate estimates in column (1), the negative estimate is significant only for females, and is almost ten times larger, indicating that, for females, a minimum wage increase of $1 causes a decrease of 1.01 percentage points in the share of automatable jobs (the elasticity is ?0.14). Across industries, these negative effects for females are concentrated in manufacturing, services, and public administration; for example, a $1 minimum wage increase reduces the share of automatable jobs in public administration by 3.67 percentage points – an elasticity of ?0.41). For males, only the estimate for manufacturing is statistically significant; the estimated effect implies that a $1 increase in the minimum wage causes a decrease of 0.62 percentage point (an elasticity of ?0.13).

Table 3 also points to similar overall effects by race, with a $1 increase in the minimum wage reducing the share in automatable jobs by 0.57 percentage point for whites and 0.72 percentage point for blacks. However, the effects are heterogeneous across industries. There are large estimated effects in manufacturing (1.19 percentage points) and public administration (1.53 percentage points) for whites, although only the first estimate is statistically significant. For blacks, there are large and statistically significant decreases in automatable shares in manufacturing and transport (declines of about 4.5 percentage point in both).

But, as usual, we"re sure this extra data will have no impact on Bernie"s "Fight for $15."  Amazing how some politicians will embrace math and science when arguing climate change but completely reject it when discussing minimum wage...wonder why?

Labor Market &#039;Breadth&#039; Nears Record Low

Tom Keene was out with a chart today referencing Zerohedge’s point that a large percentage of the non-farm payroll growth has been a result of lower paying industries, such as food and drinking places – or as they would put it, more bartenders.

the acclaimed @zerohedge chart on bartenders: pop adjust food&drinking...the NFP growth from the 2007 peak i"ll take the delta on the rocks pic.twitter.com/yL2DAiqfjy

— tom keene (@tomkeene) August 4, 2017

While a job is a job, the composition and strength of gains is quite important, as it gives us an understanding of aggregate health.

If total growth is strong, but is the result of only a few sectors, the breadth of the overall market is weak. This typically provides us with a signal on where the overall market is heading – and this goes both ways.

This brings me to an indicator that I built out over the past year – labor market breadth – which seeks to measure the aggregate health of the labor market by looking at its sub-components. While I don’t break out how it’s calculated, I will say it is comparable to the breadth of the stock market.

Following Friday’s employment report of 209k new jobs, beating estimates of 183k, labor market breadth fell to an un-smoothed cycle low, as shown below. So while the headline number was strong, it’s aggregate sub-components continue to slow, which is not indicative of strength.

We can see this by sharp decreases in total job growth of retail trade, which many will attribute to the rise of Amazon.

And information, which is not affected by the retail giant.

As well as arts, entertainment, and recreation.

And health care, which has slowed materially over the past four months.

There is some strength however in wholesale trade.

And durable goods

But this today was offset by weakness in a previously strong industry – real estate.

And a slowing financial sector.

In total, the current breadth of the labor market is indicating that wages and salaries will move lower over the next 6 months, as shown below.

We’ll see if this manifests or not.

Growing Number Of Companies Complain About Inability To Find Workers: So Why Is Wage Growth So Low?

Authored by Mike Shedlock via MishTalk.com,

Since 2010, the highest year-over-year wage increase in any month for production and nonsupervisory employees is near 2.6%.

For a two-year stretch between summer of 2011 and summer of 2013 wage increases less than 2% were the norm.

Yet, firms complain about labor costs while simultaneously complaining about the lack of workers.
 

Bloomberg reports Firms Under Pressure as Labor Drought Grows, U.S. Survey Shows.

A growing number of companies are finding it difficult to recruit skilled workers, which threatens to curtail profits and growth, according to a quarterly survey conducted by the Washington-based National Association for Business Economics.

The results of NABE’s July Business Conditions Survey published on Monday showed that 34 percent of respondents have had trouble hiring skilled employees over the last three months, up from 27 percent in January. The Washington-based association polled 101 panelists, who are economists from companies and industry associations.

In response, companies are sponsoring foreign workers, expanding their search and hiring more independent contractors, according to the survey. They’re also boosting automation, stepping up internal training and in some cases improving pay, Jankowski said.

Perhaps at least partially as a result, more than a third of respondents cited labor costs as having the largest negative impact on their profits so far this year.

Year-Over-Year Wage Growth

Year-Over-Year Wage Growth

Is 2.6% wage growth too hefty even as corporations complain about a lack of workers?

What’s Going On?

• It’s not just salaries. Obamacare and benefits are hurting many companies.


• Cheap money from the Fed keeps zombie companies alive.


• Cheap money from the Fed induced (and still does) overexpansion fast of food restaurants and retail stores of all sorts.


• Workers really are not worth benefit costs plus an extra 3% so companies seek to automate.


• Are McDonald’s workers worth $15? Please be serious.


• Amazon and online shopping are weakening retail profits.

Finally, I suspect the survey is deeply flawed.

Does some random small to medium-sized company have the same weight as Walmart? The regional Fed manufacturing and ISM surveys seem to have that defect.

Yet for now, enough stores are still expanding which adds to job growth despite automation. Apparently, the goal is a McDonald’s or a Walmart on every corner.

We will not quite get that far. Rampant expansion will turn on a dime at some point, most likely globally.

Why Wages Are So Weak - A Thought Experiment

Authored by Steven Englander via Rafiki Capital Management,

A thought experiment on why wages are so weak

I propose a microeconomic rationale for why macro wage performance is so weak, despite tight labor markets. The idea is that we are getting paid less for our job-specific knowledge because technology is making it easier to replace us without major loss of productivity with less skilled workers. The implications for markets:

• Flattish Phillips curve and low wage inflation continue for an indefinite period


• Living standards may increase because of lower price relative to wages, not higher wages relative to prices


• Monetary policy will have to get on with dealing with a low inflation economy -- this means setting aside obsessions about balance sheet reduction and setting up the facility to use fiscal policy as needed when the zero bound is approached


• It’s relatively positive for equities in innovating sectors


• Long-term bond yields will be driven by monetary policy fears, not long-term inflation worries


• Short-term policy rate moved will be capped by the sensitivity of the economy to interest rates which may not be large. Note that this cuts both ways –both tightening and easing may be ineffective.

The thought experiment

My idea is that wages are driven by how scared your boss is that you are going to leave. If replacing you, retraining your successor and waiting for him to climb the experience curve is costly, he will pay a lot to keep you from leaving. If you are a cog in a wheel, then he won’t care much.

Imagine an economy of a bus driver, a taxi driver, a cook, a translator, a baby sitter, a doctor and a foreign exchange strategist. Conceptually you can measure average job specific content by asking the following question: if you randomly reallocated jobs among these workers how much would productivity fall? For example, if the FX strategist was given the cook’s job and the cook became a doctor and the doctor a taxi driver and so on, what would happen? 

Say in Economy A, there is specific knowledge or character traits needed: a bus driver needs the specifics of driving a bus safely, a taxi driver knowledge of the street grid, the translator an excellent command of relevant languages, the baby sitter some proven degree of responsibility, the cook of recipes and technique, the doctor the body of medical knowledge, the FX strategist how to say ‘current account’ and so on. Now imagine the chaos and productivity loss, if the random reallocation occurred and none of the occupants of new jobs had the required skills.

Now, say in Economy B, the bus is programmed to avoid dangerous manoeuvres, all taxi drivers have a GPS (unlike NYC where none seem to), the translator has automated translation at his fingertips, the baby sitter is aware the house and liquor cabinets are cameraed, the cook has a set of packets to mix (or almost equivalently the packets are sent to your home for you to mix), the doctor a diagnostic program and the FX strategist a chatty virtual assistant that can say ‘current account’. If a random job reallocation occurred in this economy the productivity loss would be much less. My conjecture is that wages would be lower because there would be no need to bid to retain workers if they were readily substitutable, or if the same jobs could be filled with less specialized workers with no major productivity loss. 

Wage compression is very likely to be a feature in Economy B relative to Economy A – that is, the premium one receives for job specific knowledge and experience would fall. If you throw in a bit of capital saving technological progress from the sharing economy and economies of scale from the low marginal cost of replicating many IT-based innovations, you could end up with a kind of immiserization of parts of the skilled and semi-skilled working classes.

Evidence is partial, but it is not straight forward to test this speculation. Figure 1 shows wage levels in selected industry groupings. Note that wages in motor vehicles and parts (bright blue) started way above over industries, but is now average for durable goods (red line) and below education and health services (green line) which started way below. Motor vehicles and parts are now way below the average wage in the private sector, having started above 50% higher in the 1990s.

In Figure 2 we index these industries to 100 in 2000. We note that wages in leisure and hospitality (light blue) and education and health (green) have both grown faster than in durables manufacturing (red) and above the average for all private industries. Very similar patterns emerge if we index to 2011. So wages have grown slower in high paying industries, faster in low paying industries and the net is the mediocre observed wage growth. What isn’t consistent is Atlanta Fed wage evidence that suggests the quit rate is back to normal for this time of the cycle and the wage premium for quitters is as high as it was in the early 2000s. The other side is that the Atlanta Fed data shows the gap between increases of skilled and unskilled workers as having narrowed.

Macro/market implications

The problem for central banks is that we know little of what triggers such shifts in labor market power, how long they last and what ends them.  As long as these shifts persist, the Phillips Curve will look flatter in two-dimensional Unemployment Rate/Wage Inflation space. A well-specified wage equation that account for such structural changes would have a steeper inflation/unemployment trade off than one without the term but capturing the effects we discuss above is not so easy. 

The type of technological progress would imply lower price pressures because the wage weakness would be transmitted in part into prices. (Full disclosure, you have to believe that there is an unmeasured component of actual productivity change here, although it may show up as quality-adjusted labor productivity, rather than standard output per-worker or worker-hour). 

These disinflationary pressures may be hard to fight. Combine this with investment that is not overly responsive to interest rates and you have a situation where getting the inflation that you want may be impossible without risking undesirable levels of asset price inflation. It sounds as if the Fed is already there. There is nothing inevitable about this outcome, but it emerges easily if the disinflationary pressures are strong enough and the interest rate responsiveness is low enough.

One policy response is to live with it. Ultra-low inflation countries such as Japan and Switzerland have done just fine by many measures and the zero bound becomes an issue in a recession, not during an extended recovery. By ignoring it you have some ability to rein in asset market exuberance, but you are compromising on inflation and possibly activity targets.

This does not necessarily stop you from raising rates, but you are faced with a dilemma. If raising rates is effective you end up with the downturn you wanted to avoid, if raising rates is ineffective you are fooling yourself in thinking that the margin versus the zero bound means that you are all clear in the next downturn. Being able to raise policy rates to three percent without tanking the economy very likely means that you can cut them in the next recession, you won’t have much of an impact. Hawks would argue that reducing the risk of a financial market bubble reduces the risk of a recession down the road. 

It seems to me that whichever way you turn, fiscal policy has to be taken out of the doghouse. Post election, Fed officials reversed their pre-election love affair with fiscal policy, arguing that the economy does not need it. One might say that if the inflation undershoot turns out to be persistent, fiscal policy will become even more necessary to offset structural pressures. And if you think that high liquidity is contributing to asset market ebullience, then a bit of fiscal stimulus combined with monetary tightening can maintain activity and unwind some of the asset market pressures. 

Modest long-term price pressures are probably positive on the fixed income side. Long-term disinflationary pressures and modest investment will keep downward pressure on long-term bond yields even if the Fed tightens at the short end in response to fiscal policy. The use of fiscal likely means being more relaxed about the size of the balance sheet. Debt-to-GDP would have to grow both cyclically and structurally, but debt servicing may not grow very rapidly because of the low inflation and the Fed’s interest income being recycled back to the Treasury.  Short-term policy rates may swing around a lot versus stable but relatively low long-term rates. 

The central bank could take a hard line and maintain or shrink the balance sheet even as fiscal expansion was put in place. Still, it would hardly help macroeconomic stabilization if government finances were called into question, so willy-nilly it is likely that the balance sheet would absorb some of the debt incurred via fiscal policy. Caveat emptor – this analysis is pretty long term. In the short to medium term, I expect central banks like the Fed and ECB to try and follow up their rhetoric with liquidity tightening and for this to be reflected in long-term rates. Only if/when it turns out that the tightening is unsustainable will the forces I discuss above come into play.

On the equity side, if you can replace a skilled worker with a less skilled worker that is an attractive proposition. It is not as exciting as booming demand but it still reaches the bottom line. 

The social consequences are mixed. It is possible that this reduces the returns to certain types of training and education, both specialized and generic, but overall demand for relatively undifferentiated blue-collar labor will go up as will their wages. Improvements in living standards are likely to come via lower prices than higher wages. This is hardly the American dream. However, it is often difficult to put together policies that efficiently offset technological forces to provide distributional equity, and if other jurisdictions are not so focussed on distribution, you can end up with the worst of both worlds.   It is possible that workers will drift to occupations where differentiated skills can earn a higher return – so maybe fewer doctors and lawyers but more dancers with the stars.

If you look at any central bank econometric model, the demand side has decades of development, the supply-side and particularly the modelling of technological change is primitive, distribution is virtually nonexistent and asset market bubbles a problem because they should not exist in the model world.  These secondary issues have become first order issues. Unaddressed they mean incomplete policy regimes and surprising and disappointing outcomes.

Morgan Stanley: "Wage Growth Is Leveling Off, May Be Slowing"

While Friday"s headline payrolls print - the lowest since May - was disappointing even to the biggest economic optimists, many found refuge in the sharp drop in the unemployment rate, which ticked lower to 4.5%, the lowest print in a decade. And yet there was a problem: with the unemployment rate tumbling, at least in theory indicating even less slack in the labor market, wage growth barely hit consensus estimates. Instead, if indeed the growth narrative is accurate, and if more people were employed, wages should be rising. However, it was this weakest link of the entire reflation/recovery narrative that disappointed once again.

In fact, it was even worse: as Morgan Stanley"s Robert Rosener write overnight, "wage pressures in March were supported almost entirely by a massive jump in earnings in Professional & Business Services. Outside of this bright spot, wages in other industries were muted, and suggests wage growth in a broad range of industries may be leveling off, or even slowing."

As Rossener further notes, to describe wage pressures in March as "spotty" may be an understatement. The 0.19%M gain in average hourly earnings was supported almost entirely by a massive jump in the Professional & Business Services industry. Outside of this one bright spot, wage pressures in other industries were surprisingly muted (Exhibit 1), and suggests wage growth in a broad range of industries may be leveling off or even slowing.

According to MS, the 0.92% sequential gain in average hourly earnings in Professional & Business Services was the second largest monthly increase on record, and this accounted for nearly all of the increase in aggregate average hourly earnings. In other words, average hourly earnings would have been roughly flat on the month were it not for the outsized increase in earnings for Professional & Business Services. To be sure, the bounce in wage growth for this job category was decidedly welcome: As a generally high-paying industry, stronger wage growth in Professional & Business Services can go a long way in supporting stronger aggregate outcomes for average hourly earnings.

The key question from here is whether or not the upside in March can be sustained, or if it"s just noise.

Yet while the silver lining in professional services will be closely watched, a bigger question is what happens to wages in all the other key indudtries, where as noted above, March saw substantial weakness.

Here, Rosener writes that "consistent with signs of a recent softening in wage pressures in a number of industries, our wage growth diffusion index has shown a meaningful narrowing in the breadth of wage pressures across industries in recent months—only 38.5% of industries are now showing above-trend rates of wage growth, down from 46.2% in February and a high of 61.5% in August 2016."

Some more observations from Morgan Stanley:

• The jump in average hourly earnings in Professional & Business Services helped boost wage growth in the broader high-wage industry segment as a result, with average hourly earnings in high-wage industries rising to 3.0%Y in March from 2.7%Y in February (Exhibit 5).


• Wage growth in middle-wage industries fell sharply in March to 2.1%Y vs 2.6%Y in February (Exhibit 6).


• Wage growth in low-wage industries ticked down to 2.6%Y from 2.8%Y, although smoothing through the volatility shows a steady trend for wage growth in low-wage industries around 2.6%Y (Exhibit 7).


• Consistent with fewer workers experiencing wage gains, the median rate of wage growth across industries fell notably in March. Median wage growth fell to 2.5%Y in March from 2.8% (Exhibit 8)

* * *

Taking all that, and the bigger jobs picture in mind, what does the labor market mean for the Fed"s June decision? The answer: it depends on whether you see the glass as half empty or half full.

The optimist says, "Well, the unemployment rate continues to fall and the Fed has been expecting the pace of job gains to slow. At 163k per month over the past 6 months, shown in Exhibit 2, the economy has been adding jobs well above the pace needed to keep the unemployment rate moving lower." The labor market is tightening, right?

The pessimist says, "Despite continued strength in the labor market, signs of labor market tightness are few and far between. Yes, the unemployment rate is falling, but core measures of wage growth remain anemic. Just look at the year-on-year rate of wage growth among production and non-supervisory workers, as shown in Exhibit 3. At 2.3% Y/Y in March, growth in wages of these workers was lower than it was in the year ending early 2014. This just means NAIRU (Natural Rate of Unemployment) is lower."

Morgan Stanely"s summary:

"Even though NAIRU could be (much) lower, we don"t think the FOMC consensus will let that affect their decision on rates for now. One weak headline payroll number is also unlikely to dissuade the consensus from believing that continued gradual rate hikes remain appropriate. However, if the April or May payroll number disappoints, that could change.... we"ll be watching carefully for clues as to whether small business hiring slows in the wake of inaction by the Trump administration and Republican-controlled Congress. So we"ll be watching with interest the NFIB Small Business Optimism index released on Tuesday, April 11."

What this means for markets and the economy: the Trump "reflation" rally, having already withered across many market indicators, has finally moved to the economy and actual wages, where it increasingly appears to have been nothing more than a mirage.

Optimist&#039;s Burden Of Proof - Are Bonds "Distracted" Or "Depressed"?

Authored by Jeffrey Snider via Alhambra Investment Partners,

The idea that interest rates have nowhere to go but up is very much like saying the bond market has it all wrong. That is one reason why the rhetoric has been ratcheted that much higher of late, particularly since the Fed “raised rates” for a third time in March. Such “hawkishness” by convention should not go so unnoticed, and yet yields and curves are once more paying little attention to Janet Yellen. When Mohamed El-Erian wrote in what was I guess an oped in the Financial Times on Monday that bond investors were “distracted”, it was his subtle way of attacking them as wrong.

In that way, we are truly back to late 2013 and early 2014 all over again. But back then the Fed’s positivity side, thus bad for bonds, had a whole lot more going for it (even if it was in total still a thin catalog). Recovery at that point was at least plausible under the undetermined guidance of QE3 (and 4), whereas today not even Fed officials talk that way or even bring themselves to mention QE.

This isn’t to say that the bond market or eurodollar futures have everything right, far from it. As I argued earlier this week, these very markets were way off at several points and for several years. Treasuries as well as eurodollar futures were firmly within the camp of higher interest rates and monetary policy support until 2011. In other words, bond investors then were wrong, and even though it took several years to fully appreciate the implications of the con job that was QE, the bond market and eurodollar futures curve have been far more right than wrong since then (the noted exception being late 2013).

On its own, that doesn’t mean bond investors are now infallible and that treasury yields and the eurodollar curve together make up the definitive guide to the universe. Everything is about probabilities and really a spectrum of them, which means in simple terms the bond market deserves the benefit of the doubt where clearly economists and policymakers do not. Therefore, if there is a disagreement all over again between bonds and economists, particularly in similar fashion to 2014 and 2015, it does not make much sense to follow the latter particularly as interpretations on that side continue to rely upon the so far unreliable unemployment rate view of the economy.

For the balance of presumed error to shift back in the favor of this mainstream interpretation will require far more tangible proof than “interest rates have nowhere to go but up.” Having already heard it before several times, and having witnessed that, no, interest rates can actually go lower, there needs to be compelling evidence to that effect.

To this point in 2017, already the second quarter, it remains absent. The payroll report today was but another reminder of that case, especially beyond the headline Establishment Survey number that while disappointing did not describe the full impact of that disappointment. By almost every facet of the BLS data did the unemployment rate fail, which was particularly troubling given that the rate itself fell to a new “cycle” low. In other words, there is no indication that unemployment rate today has any more meaning and significance than it did in 2014 when last “interest rates had nowhere to go but up” because the Fed was tapering.

Instead, economic indications beyond payrolls continue to suggest only sustained weakness. There is improvement in most accounts beyond the labor market, to be sure, but like the labor market data nothing that is close to convincing that a positive inflection is even realistic let alone close at hand. To emphasis that point further, the Atlanta Fed’s GDPNow tracking model was reduced today to project just 0.6% real GDP growth in Q1 – such a low level despite “residual seasonality” already built in even though there hasn’t been found any evidence any such thing as residual seasonality ever existed in the GDP data set.

When it comes to economic interpretation, pointing to the unemployment rate was never enough even if it satisfied everyone in the media. To do so now only further calls into question that position, for if the unemployment rate is all you have to define a “better” economy then you truly have nothing. As I wrote in late January last year, right amidst the then “unexpected” turmoil:

The very basis for this persistent over-optimism has been the BLS figures, both the Establishment Survey and the unemployment rate. Yet, despite robust numbers on either account we are in this mess already. And it was economists and their unemployment rate devotion who told us last year that the “best jobs market in decades” would almost guarantee nothing but the best for the rest of it. It was in many ways the entire basis for the assertions of “transitory.”

More than a year later, not even the Establishment Survey can be included on that sunny side of the ledger. When in the mainstream the bond market’s pessimism is decried as surely wrong, it is done so on the basis of econometric models that are, to put it simply, backward.

It is the backwards priorities of economics; to view all modeled outlooks as if “more real” than observed condition including market prices. Such Aristotelian process raises more questions than confidence, especially surrounding labor statistics. If the labor market is so robust, why are there no wage gains? To the orthodoxy, it’s not a puzzle but an article of faith; there have to be wage gains, just pushed off to some point in the future.

Even after two years of “full employment” the wage acceleration of full employment remains conspicuously missing; to the point that it in all likelihood the Fed’s models have given up on it. The latest payroll report suggests only continued significant slack which can only mean chronic weakness well beyond the unemployment rate’s overly narrow focus (participation problem). If there is any policy debate left it is only about what has caused this depression (or secular stagnation, low/negative R*, or however you wish to characterize what is a no-growth baseline).

Having seen through these statistics for what they really are, the treasury as well as eurodollar market reflects considerable and legitimate economic doubt drawn from realizing what money is (a whole lot more than bank reserves) and what it certainly wasn’t (QE). It is the optimists who share the burden of proof that this time is any different. The longer that evidence remains missing, the greater that burden. This is not a “distraction” as El-Erian would have it, but rather very ugly reality unchanged by time or effort.

Perfect Example Of Why Job Losses From Minimum-Wage-Hikes Are Being Underestimated, &#039;Bigly&#039;

Over the past several months, we"ve highlighted a number of economic studies analyzing the potential negative impact, in terms of job losses, that may be expected to result from the state-mandated minimum wage hikes that are currently being implemented around the country.

One such study came from the American Action Forum (AAF) and estimated that 2.6 million jobs will be lost around the country over the next several years as states phase-in minimum wage hikes that have already been passed (see "State Minimum Wage Hikes Already Passed Into Law Expected To Cost 2.6 Million Jobs, New Study Finds").  Here were a few of the key takeaways:

• In isolation, the minimum wage increases in 2017 will cost 383,000 jobs;


• The entire minimum wage increases currently phasing-in will cost over 2.6 million jobs; and


• Each job lost only leads to an extra $6,900 in total wage earnings across all workers.

After running a lot of really complicated math using complex equations that most of us stupid people just wouldn"t understand, these studies ultimately come down to a simple economic premise: elasticity of demand (a.k.a. "the higher shit is priced the less people will buy of it" rule).  In fact, the AAF analysis even summarized their study by saying that each 10% increase in wages results in an proximate 0.3% - 0.5% decline in net job growth...a rule which they used to conclude the following:

While proposals to raise the minimum wage are well intended, it is important to consider the negative labor market consequences. Meer & West (2015) find that raising the minimum wage reduces job creation. Specifically, they find that a 10 percent increase in the real minimum wage is associated with a 0.3 to 0.5 percentage-point decline in the net job growth rate. As a result, three years later employment becomes 0.7 percent lower than it would have been absent the minimum wage increase.

While the Meer & West (2015) findings may not seem very problematic, when taking into account the magnitude of the minimum wage increases and the number of states implementing new laws, the negative labor market consequences add up. Let’s first examine the minimum wage hikes of 2017 in isolation, without considering previous or future minimum wage increases under the new state laws.

The problem is that these studies consistently underestimate the number of jobs that will be impacted by minimum wage hikes.  For the most part, the economists simply tally up the number of jobs in a given market that currently fall beneath the new minimum wage threshold and then assume that a certain percentage of them will disappear.

In reality, minimum wage hikes trigger pay increases across the pay scale, not just for the employees earning minimum wage, because most people make employment decisions based on relative wages and not absolute wages. 

Consider, for example, the folks working at a California McDonalds where the minimum wage was $10 per hour in 2016 but is set to increase to $15 over the coming years.  Lets also assume that most of the customer service staff earns the minimum pay rate while managers earn $15.  Under the methodology above, the manager would never be counted as an "at-risk" position because his job would never technically fall below the new minimum wage.  But, in reality, there"s no conceivable world where the manager will simply agree to keep his $15 per hour pay rate once all of his workers have received a 50% pay increase and now make the same as him...instead, he"ll run some basic math and conclude he needs to be making $22.50 per hour to have the same "relative" compensation he had before or he"ll just go work as an order taker with less responsibility. 

And while these are simple concepts to most of us, even if we don"t understand the complicated econometrics equations, as the Associated Press points out today they"re completely foreign concepts to our elected officials who ignorantly passed minimum wage bills across the country without understanding the real economic consequences.  As a perfect example, apparently New York Governor Andrew Cuomo was shocked to learn that home healthcare experts would rather take his new $15 per hour minimum wage job flipping burgers with no stress than to earn the same amount of money for a job that requires a ton of expensive education and stressful, long hours....who knew?

It"s a national problem advocates say could get worse in New York because of a phased-in, $15-an-hour minimum wage that will be statewide by 2021, pushing notoriously poorly paid health aides into other jobs, in retail or fast food, that don"t involve hours of training and the pressure of keeping someone else alive.

"These should not be low-wage jobs," said Bruce Darling, executive director at the Center for Disability Rights. "We"re paying someone who gives you a burger the same as the person who operates your relative"s ventilator or feeding tubes."

There are 2.2 million home health aides and personal care aides in the U.S., with another 630,000 needed by 2024 as the Baby Boomer generation ages, according to the nonprofit research and consulting group PHI. New York state employs about 326,000 home health workers but is predicted to need another 125,000 by 2024.

For now, home health aides in New York state earn an average of about $11 an hour, though wages are lower in upstate regions. Advocates say the system needs an overhaul that focuses on higher pay, worker retention and finding methods of compensation beyond what is provided through Medicaid.

Here"s an idea...how about we just let markets set wage rates?

US Job Market Not As Strong As Perceived, San Fran Fed Warns

Despite endless streams of Fed Speakers proclaiming, in one form or another, that "we are at, or close to, full employment;" many in America - judging by the election of President Trump - are not feeling as exuberant as the jobs data implies they should be. The SF Fed itself now agrees: "the labor market may not be quite as tight as the headline unemployment rate suggests."

As we detailed previously, between 1948 and 2015, the work rate for U.S. men twenty and older fell from 85.8 percent to 68.2 percent. Thus the proportion of American men twenty and older without paid work more than doubled, from 14 percent to almost 32 percent. Recent data over the last number of years have begun to show that it is not just the American male who is struggling.

The participation rate of female workers is beginning to decline as well. The trend in the workplace has not been our friend.

And The San Franciso"s Fed researchers Regis Barnichon and Geert Mesters question "how tight is the US labor market?"

The current low unemployment rate compared with previous labor market peaks has raised some fears regarding whether the labor market has become too tight. In this Letter, we use a new method to isolate the effects of demographic changes on unemployment, and we find that the demographic-adjusted unemployment rate is still 0.3 to 0.4 percentage point higher than it was at past labor market peaks.

This indicates that the labor market may not be quite as tight as the headline unemployment rate suggests.

The researchers note that there is a major demographic effect in this...

As of February 2017 the shift-share adjusted rate stands at 5.0%—the same level as in the 1979 and 1989 labor market peaks (green line) and only one-tenth higher than the 2006 peak—which appears to confirm the initial impression of a tight labor market.

However, we believe this conclusion is premature. We find that the standard approach to demographic adjustment does not properly capture the full effects of demographic changes. In fact, once we address the shortcomings of the standard approach, the demographic-adjusted unemployment rate appears to be higher than all its previous lows since 1976.

Taking a longer-run perspective, we consider the effects of demographics on unemployment since the mid-1970s and their underlying causes. Figure 2 shows that demographic factors lowered the unemployment rate by about 2 percentage points over this period, according to our adjustment method. This number is substantially larger than that implied by a conventional shift-share analysis, which suggests demographics lowered unemployment by just over 1 percentage point.

So, in other words, if Yellen ever needs an excuse to get dovish, her own SF Fed research department just offered up PhD-style proof that the economy is not as strong as everyone hopes for... due to demographics.

*  *  *

Furthermore, any reasonable analysis suggests that in the future, the rate at which jobs are being lost to new technologies is only going to double and triple. This is one of the central problems facing society today, not just in the US but all across the developed world.

How "Superstar" Companies And Technology Are Killing The American Worker

We"ve frequently written in recent months about the unintended consequences of politicians meddling in labor markets by setting artificially high minimum wage rates (see "State Minimum Wage Hikes Already Passed Into Law Expected To Cost 2.6 Million Jobs, New Study Finds").  Of course, the combination of higher wages and declining technology costs are wreaking havoc on labor markets as they serve to significantly improve the return on invested capital profile of new labor-replacing capital projects.  Here are just a few examples:

There"s the Big Mac ATM...

Uber"s autonomous vehicle, which is sure to put a dent in the number of taxi drivers needed over the next decade...

And there are even autonomous tractors that come complete with cameras, radar, GPS and a tablet remote control but it"s missing 1 key thing...a seat for a driver.

In fact, as Bloomberg points out today, total compensation as a percent of GDP in the United States has been on the decline for decades with a sharp decline corresponding with the tech boom of the 2000s.

But, it"s not just technology and labor-replacing capital investments driving aggregate wages lower.  As a working paper for the National Bureau of Economic Research notes, market share consolidation has also had a huge impact on aggregate wages as larger companies are able to defray the impact of fixed labor overhead. 

Autor and his fellow authors say superstar companies, because they"re big, can defray fixed labor costs such as headquarters staff over a bigger base of revenue and profits.  But why are there more such companies now than in the past? One theory they discuss is that new "competitive platforms," such as the ability to compare prices on the internet, make it easier for the best companies to set themselves apart. Or it could be the proliferation of "information-intensive goods" such as software, which require relatively few people to produce in volume.

Using data from 676 industries in six sectors in the Economic Census, the authors find that the share of revenue controlled by the top four companies in an industry rose on average from 38 percent in 1982 to 43 percent in 2012 in the manufacturing sector; from 24 percent to 35 percent over the same period in finance; and from 15 percent to 30 percent in the retail trade. Concentration also rose in services and wholesale trade while falling slightly in utilities.

Next, the authors showed that the labor share fell the most in the industries with the greatest increases in concentration. They found no evidence that the superstars" gains were ill-gotten. The increasing concentration seemed to be a sign of business success, not lobbying: The industries in which concentration increased the most, they found, were the ones that had the strongest growth in workers" productivity.

Per the charts below, the study found that industries with the highest growth in market share concentration also had the worst performing labor markets over the past three decades.

Conclusion: Technology and markets "increasingly concentrate rewards among firms with superior products or higher productivity—leading to better quality or lower costs—thereby enabling the most successful firms to control a larger market share."

Unfortunately, we"re likely in the early innings of this downward spiral.