My Big Concern Around the Economy
Let’s open the Beige Book, look at employment and see why the jobs picture could be more fragile at the moment than realized.
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To date, this has been a quiet week for the domestic U.S. macroeconomic data release docket. That will change by Friday morning when the Department of Labor’s Bureau of Labor Statistics (well known for their immense capacity for inaccuracy) publishes the results of their two labor market surveys for August.
These surveys are done by one… reaching out to a smallish number (about 120,000) of “establishments” also known as employers and two… by reaching out to a smallish number (about 60,000) of “households” also known as laborers. The raw results are then seasonally adjusted, and a birth-death (of businesses, not humans) model is applied. Then those numbers are extrapolated (guessed at) through a process that includes multiplying the results between four and eight times.
This description is obviously simplified for the purposes of this article. The process is actually far more complex than that. That is, however, why there are such large month-to-month and such large benchmark revisions up to a year after the fact. This is why the monthly results that we as economists use, and that traders and investors make decisions off of, are rarely even close to accurate. These numbers do a decent job of representing “trend” and little else.
That does mean that the labor market weakness seen for July was probably authentic given that it brought significant downward revisions to May and June with it. That said, the real numbers will take some time to figure out. This is why anecdotal evidence of economic performance is still important. This is why publications such as the Federal Reserve Bank’s Beige Book still matter.
The Fed released its eight-times-a-year Beige Book on Wednesday afternoon, two weeks ahead of scheduled policy decisions. The Federal Open Market Committee will release its next statement on monetary policy on Wednesday, Sept. 16. Futures markets trading in Chicago are currently pricing in a 60% probability for a quarter-percentage point rate hike that day. That would take the Fed Funds rate up from today’s target range of 3.5% – 3.75% to 3.75% – 4%.
This is a huge reason why financial markets, both domestic and global, have become more volatile this week. The Kevin Warsh address last Friday from Jackson Hole was the “here and now” catalyst, but his pressure has been building and while I really do not agree with Warsh’s current direction, given his history, the comments did not come out of left field.
By the (Beige) Book
What does the latest edition of the Beige Book say about the economy? These are the quotes that I found most telling in the report. This latest edition of the Beige Book was compiled by the Minneapolis Fed. (The districts rotate responsibility for compilation. This release covered the early July through late August period.) This is what Fed Chair Kevin Warsh is likely looking at when he sees an economy that is not as soft as what some of the rest of us think we see. I am not saying that this anecdotal evidence is strong. It is not. That said, these notes are not screaming out for help just yet either.
Economic Activity:
“Economic activity increased modestly since early July. Ten of the twelve Federal Reserve Districts reported growth in the slight to moderate range.”
“Consumer spending grew slightly on balance; reports reflected both heightened price sensitivity on the one hand and solid high-end purchases on the other.”
“The general outlook for the coming months was positive, but sentiment was mixed across sectors, with contacts reporting heightened uncertainty surrounding the effects of higher energy prices, policy, and international conflict.”
Labor: “Employment rose very slightly overall, with three Districts showing modest gains in employment, four reporting slight gains, and five Districts experiencing no change.”
“Districts also reported both positive and negative effects of artificial intelligence on labor demand.”
“Significant wage increases were most often connected to demand for skilled workers in construction and manufacturing.”
Inflation: “Prices increased moderately in eight Districts, with two Districts reporting modest increases, one slight increase, and one robust increase.”
“Retail and manufacturing contacts continued to note tariff-related impacts in multiple Districts.”
“Firms also broadly reported significant health care and insurance cost pressures.”
Regionally: Districts showing economic growth: Boston, New York, Philadelphia, Cleveland, Richmond, Atlanta, Chicago, St. Louis, Minneapolis, Dallas
Districts showing no or little growth: Kansas City, San Francisco
My Concerns
While Fed Chair Kevin Warsh clearly set the stage for tighter monetary policy in the short-term on Friday and financial markets have priced in this adjusted reality this week, that does not mean that everyone is on board with the idea. I for one, am not, but my concerns are for labor market demand. I see this economic condition as more fragile at the moment than does Warsh or do other Fed-level economists apparently.
These economists see an unemployment rate just above 4% and an underemployment rate close to 8% and they interpret this as something beyond “full employment” of the labor force. The definition of “full employment” is subject to interpretation and different economists have differing views. Full employment can occur even if a certain level of structural unemployment persists. Full employment also does not necessarily reflect an appropriate relationship between ability, skill level or education and demand for labor exhibited through hours worked or wages paid.
Some economists simply see full employment as the level where there is no upward wage spiral. Simplified for the masses, that just means a level where wages paid in the aggregate put no upward pressure on inflation at either the consumer or producer levels. Some see full employment as the point at which ever increasing accommodation in the application of fiscal or monetary policies can no longer increase demand for labor.
Form a circle and sit down, kids. This is where I dig in a little. My concern is this. Historically, economists see full unemployment for an economy as large and robust as what we have here in the U.S. at a rough 5.5%. Some see it as high as 6%. The current unemployment rate in the U.S. is 4.1%. To put that in perspective, for most of my formative and early adult years, unemployment ranged from 6% to almost 10%. More recently, the Obama years were very, very tough for U.S. workers, but the Trump 1 (ex-Covid) and Biden (ex-Covid) years peaked with unemployment well below 4%.
My thought is this: Does the Fed think that it has wiggle room because unemployment is down at 4.1% due to a reduction in the labor force more than anything else? Is the Fed willing to allow unemployment to rise to 5% to 5.5% because that is a historically very low unemployment rate, in order to fight inflation? There is a Phillips Curve at work here even if the very concept was beyond Janet Yellen’s depth as an economist.
If so, policy like that would leave this economy mired in a deep recession and the knee-jerk reaction would be to increase the money supply while adding long-term debt to the central bank’s balance sheet in order to suppress borrowing costs. This would stoke the very inflation now feared by our new Fed Chair.
On The Matter
“I have a lot of respect for (Kevin Warsh) and he’ll do what he has to do. I think our interest rates are too high. We should have the lowest interest rates in the world…Someday I think we’ll be able to convince people of that.”
– President Donald J. Trump earlier this week
“It is my belief that we’ve seen a supply shock. And traditionally, you don’t raise (rates)…unless you see second or third order effects, and we are seeing the core inflation has remained very, very restrained.”
– Treasury Secretary Scott Bessent earlier this week
I’m not sure it’s that simple, Mr. President. I do, however, very much agree with what Scott Bessent said.
Economics (All Times Eastern)
08:30 – Balance of Trade (July): Last $-73.3B.
08:30 – Initial Jobless Claims (Weekly): Expecting 205K, Last 203K.
08:30 – Continuing Claims (Weekly): Last 1.778M.
08:30 – Non-Farm Productivity (Q2-F): Flashed 1.4% q/q SAAR.
08:30 – Unit Labor Costs (Q2-F): Flashed 1.3% q/q SAAR.
09:45 – S&P Global Services PMI (Aug-F): Flashed 56.8.
10:00 – ISM Manufacturing Index (Dec): Expecting 54.1, Last 54.1.
10:30 – Natural Gas Inventories (Weekly): Last +15B cf.
The Fed (All Times Eastern)
08:30 – Speaker: Reserve Board Gov. Christopher Waller.
3:00 p.m. – Speaker: Cleveland Fed Pres. Beth Hammack.
Today’s Earnings Highlights (Consensus EPS Expectations)
Before the Open: CPB (.39), VSXY (.77)
After the Close: DOCU (1.09), LULU (1.80), PL (-.02), SWBI (-.05), ZS (1.09)
At the time of publication, Guilfoyle was long PL, SWBI equity.
