As US unemployment dips, what’s next Mrs. Yellen?

The Bureau of Labor Statistics stunned markets in early January when it reported a significant drop in the U.S. unemployment rate to 6.7 percent. What appeared to be stellar news on the surface sent the Dow Jones Industrial Average down 180 points and the 10-year Treasury up 11 basis points to end the day at 2.85 percent.   

The massive improvement in U.S. employment by more than 3.3 percent since its 2009 highs skirts the much publicized threshold announced by the Federal Reserve just one year earlier. With the much-needed strides in employment, why did markets react so negatively? 

The less than sanguine mood on the street seemed to reflect the depth of the report. Average weekly hours worked and average hourly earnings both came in lower than forecast, and lower than the previous month. Perhaps most disappointing in the report was the weak U.S. labor force participation rate, reaching levels not seen in more than 35 years.  

This seesaw surrounding the labor market data left many market participants to speculate on the conundrum facing newly minted chairwoman Janet Yellin as she took the reign at the Fed on Jan. 31. Now that the unemployment rate is almost certain to hit the 6.5 percent target sooner rather than later, should markets expect fundamental changes in Fed policy while other employment metrics remain significantly weak? 

Notwithstanding, the Federal Open Market Committee took significant steps following its Dec. 19 meeting. In the press conference that followed, then-Fed Chairman Ben Bernanke announced the first round of “tapering” to modestly reduce the pace of asset purchases starting in early January.  

Is it reasonable then to expect even further policy actions given the uneven employment data?  

It comes as no surprise that Mrs. Yellen was a strong supporter of Bernanke. A direct corollary of that support is seen in the primary gauges used to judge the strength of U.S. labor markets. During the year, payrolls rose at a monthly pace of 182,000 versus the 10-year average of 129,000. Discharges at the end of December remained close to a post-recession low of 1.1 percent, a significant improvement from 2 percent at the peak of the crisis. With unemployment now racing toward 6.5 percent, three of these six gauges on Mrs. Yellen’s radar continue to garner strong support for further Fed tapering. Other fundamental gauges, including labor force participation rate, hiring rate and voluntary quits, still present significant challenges for the chairwoman. 

Juxtaposing the subdued tone of the employment report in early January with the Job Openings and Labor Turnover report a week later suggests there is much room for improvement in many of the labor market metrics. At 3.3 percent in November, the hiring rate remains well below the 3.8 percent average in the last growth cycle. While job openings remain flat at 2.7 percent for 2013, separation (involuntary departures) and quits rate leave much to be desired. The quits ratio remains at the forefront of labor market gauges and highly correlates with outlook on employment opportunities.  

A high quits ratio is indicative of people voluntarily leaving their jobs or those who have already left their jobs due to new opportunities or the prospect of finding better opportunities in the short term. At just 1.8 percent for November, the quits rate is well below the 2.1 percent at the start of the recession. 

Although the reports reflect a mixed set of data, there is much anecdotal evidence to suggest the slack in the U.S. labor market finally appears to be dissipating. With consumer spending accounting for almost 70 percent of the U.S. economy, labor markets will undoubtedly remain at the forefront of the policymaking board’s agenda, at least in the intermediate term.  

As unemployment inches toward the Fed’s threshold and inflationary pressures remain firmly subdued, the Federal Open Market Committee seems poised to courageously step even further toward winding down easy money policy. Global investors may ultimately get a chance to witness the dovish tone of Chairwoman Yellen we’ve always known to exist, very early into her leadership.  

 

Disclaimer: The views expressed are the opinions of the writer and whilst believed reliable may differ from the views of Butterfield Bank (Cayman) Limited. The bank accepts no liability for errors or actions taken on the basis of this information. 
Statistics and Data Source: Bloomberg LP, U.S. Bureau of Labor Statistics.  

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