MainStreet Macro: The labor market’s winning streak still has legs – for now

The labor market has had an incredible run in 2022. But with the Federal Reserve continuing to hike interest rates and companies announcing layoffs and hiring freezes, we might ask if that winning streak is coming to an end.

Turning points in the labor market – those junctures that separate expansions from downturns – are notoriously hard to spot. And the disjointed post-pandemic recovery complicates things even more.

Over the past two years, employers of different sizes and sectors hired differently, adding workers at various times and with varying levels of intensity. For this reason, current weakness in one segment, say technology, might or might not be a bellwether for the broader market.

So how do we know when or whether the job market is starting to turn? With crystal balls in short supply, the following three data points promise the best view of what might come in 2023.

Pay is still going up

Data from the U.S. Bureau of Labor Statistics on Friday showed that employers added a respectable 263,000 jobs in November while the unemployment rate remained steady at 3.7 percent, near a 50-year low.

But the real standout of the report was wages. In November, average hourly earnings rose at a robust 5.1 percent from a year earlier. Compare that to the roughly 3 percent growth in hourly earnings that was the norm before the pandemic.

Last Wednesday, just before the BLS release, ADP Research Institute data showed that pay growth for workers who changed jobs over the previous 12 months accelerated by more than 15 percent. Pay for job-changers is more sensitive to current labor market conditions, suggesting that workers remain in high demand.

And while the pace of pay gains is easing from its March 2022 peak of nearly 17 percent, it’s still more than double what it was two years ago.

In short, wage growth is still quite elevated and recent signs of easing are modest at best.

Turnover is slowing Employers still are looking to hire, but not as strongly as before. In October, there were 353,000 fewer job openings posted than in September, according to the BLS.

One reason is that more workers are staying put. The rate of people quitting eased to 2.6 percent after sitting at 2.7 percent for three straight months, the bureau reported. That means that 106,000 fewer people quit in October compared to the same time in 2021.   

Moreover, despite recent headlines about layoffs, employers writ large are holding on to their workers. Initial jobless claims, which track new people applying for unemployment benefits, show that layoffs are still quite low and in line with levels we saw before the pandemic.

Lower turnover means that companies are less pressured to replace departing workers and can be more strategic in their employment decisions. This change in strategy might moderate hiring next year to still-strong but more normal–and stable–levels.

The workforce is shrinking

The pandemic forced a lot of people to leave the labor force. Despite strong wage growth, many of them remain on the sidelines. 

For the better part of a year, labor force participation has been hovering 1 percentage point below pre-pandemic levels. The one disappointment in the November jobs report was that the participation rate edged down, to 62.1 percent. ]

When adjusted for population growth, that means the workforce is actually smaller now than it was two years ago. In a recent speech, Federal Reserve Chair Jay Powell pointed to research from his team of economists showing that roughly 60 percent of the recent shortfall in workers is from people who retired prematurely due to the pandemic.

These workers probably aren’t coming back, which means labor shortages are likely to continue for some time.

My Take

We can expect wage gains and worker shortages to dog the economy going into 2023. But as strong as the labor market appears now, one element is missing: productivity. 

In 2022, for the first time since the 1980s, worker productivity has fallen from the previous year for three consecutive quarters.

Absent a productivity boost, our current labor market is strong but hollow. Wages are rising not because workers are more efficient and companies more profitable. They’re rising because labor is in short supply. Desperate employers are competing for talent by offering higher pay and other perks and workers are demanding more money to keep up with inflation.

Wage growth tied to increased productivity enables companies to produce more for less, a dynamic that ultimately cools inflation. Wage growth resulting from shortages and competition does the opposite. 

For the labor market to win in 2023, the economy will need to up its game. Productivity is the missing element to a healthy job market that benefits both Main Street workers and employers.