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Analysis

Why Wall Street has got the US economy wrong again

The hiring slowdown does not signal recession for the US economy. Growth is just moving down a gear, says Brian Pellegrini.

Barmaid pouring a cocktail
The leisure sector has seen rapid wage growth in recent years

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The hiring slowdown does not signal recession for the US economy. Growth is just moving down a gear, says Brian Pellegrini, CFA, founder and senior analyst at Intertemporal Economics.

When a person fails to meet expectations there is reason for disappointment. But the same cannot be said of the US labour market. There is no "right" level of employment growth, so the term "weak" has no meaning when assessing data releases relative to Wall Street estimates.

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The consensus on Wall Street begins from the assumption that faster employment growth is always better than slower. Wall Street commentary does not acknowledge that hiring can slow because the labour market is so strong there is a shortage of workers.

The consensus also ignores the possibility that the current slowdown in economic growth does not foretell a recession. Rapidly decelerating from 40mph to 20 feels the same as slowing from 20 to zero (until the very end). In fact, the economy is simply moving down a gear.

Symptoms of strength

The current bull market in the headhunting industry runs completely counter to Wall Street's argument. When labour is scarce and firms want to increase production, they must pay for someone to beat the bushes for available workers. Based on the supply of short-term unemployed workers, currently at 60-year lows, it is no surprise that headhunter services are in high demand.

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The breadth of wage acceleration also points to a robust labour market. In late 2018 wage growth in the service-providing side of the economy began accelerating and has now caught up with the goods-producing side. Wage growth acceleration is broadening, which begets wage growth in yet more sectors as employers fight to retain employees.

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When a firm hires a new worker, it is purchasing the skills that worker offers. Wage acceleration spreads across the economy through shortages of skills, not workers. Once a skill is no longer available, an intense bidding contest takes place between employers to maintain production as firms compete over a fixed pool of labour.

Another indication that the slowdown in employment growth is supply-driven is that it has been accompanied by a near-halt to the growth of highly educated workers in the labour force. A glut of college graduates seems to have been used up and the results are showing up in the wage data.

Employers did not suddenly cut back on hiring because of economic uncertainty, but because there simply were not enough workers available to meet demand for labour. The same phenomenon has already occurred lower down the skills ladder.

Employers grew their staff using college dropouts and associate-degree holders from 2012 through 2016. In 2016 employment growth suddenly switched to high school diploma-holders.

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Employment of high school graduates grew rapidly until the supply ran out in late 2018. Now, in late 2019, the limits of the supply of available workers with a bachelor's degree or better has been found.

A good example is the leisure and hospitality industry. Since late 2014 the industry has experienced faster wage growth than the professional and business industry to a duration and extent not previously observed in the data.

However, in 2019 wage growth for the professional and business industry has accelerated more rapidly than wage growth for leisure and hospitality industry workers, and the gap has nearly closed. Wage growth at the high-skill end of the labour market is poised to accelerate sharply going into 2020.

The "Trump bump" has subsided

The consumer boom after the 2014 oil crash, the "Trump bump", fiscal stimulus and tax cuts gave everyone a taste of the old days, but growth at that pace was not meant to last.

The economy has a lower trend-growth rate, or speed limit, than in previous decades. But it adapts quickly to ebbs and flows of activity. One of the best aspects of a highly integrated supply chain is the ability to make rapid adjustments as economic conditions change. The bad news is that these days everyone experiences the economy like a New York City taxi ride: a burst of speed is followed by a slowdown to a disappointingly slow pace.

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