U.S. economic data were mixed last week, but there was nothing in the August Employment Report to suggest that growth is slowing down. A surprise move from the European Central Bank pushed the euro lower, but there appears to be a lot more that the ECB can do. Attention will soon turn to the Fed’s September 16-17 policy meeting, where another $10 billion taper in the monthly pace of asset purchases is factored in. The Scottish Independence Referendum (September 18) has generated more suspense than was anticipated.
Nonfarm payrolls rose less than expected in the initial estimate for August, restrained partly by two factors. Seasonal auto plant shutdowns were much more moderate this year – fewer auto layoffs in July, less of a rebound in August (which shows up as a seasonally adjusted gain in July and a seasonally adjusted decline in August). Labor strife at a New England grocery store chain contributed to a 17,000 drop in employment at food & beverage stores. Together, these factors may have reduced August payrolls by about 25,000, explaining some (but not all) of the shortfall in the headline payroll figure.
The unemployment rate edged down to 6.1%, but the decline was concentrated among teenagers (19.6%, vs. July’s 20.2%) and young adults (10.6%, vs. July’s 11.3%). The unemployment rate edged higher for the prime-aged cohort (5.3%, vs. 5.2%) and older workers (4.6%, vs. 4.5%). One month does not make a trend and there’s a fair amount of statistical noise in these data. The employment/population ratio for the prime-aged cohort has been trending higher, but the level suggests that there is still considerable slack in the labor market.
Average hourly earnings rose 2.1% y/y, but this is barely keeping pace with inflation. Lackluster wage growth is a restraining factor for consumer spending growth, preventing the recovery from building a larger head of steam.
While the U.S. economy is improving, the euro area’s economy is looking feeble. Real GDP rose 0.7% in four quarters ending 2Q14 and momentum has faded. Inflation in the euro area was 0.3% over the 12 months ending in July. Deflation, a decline in the general price level, is to be feared, but not to the same degree it was a decade or more ago. Japan’s experience suggests that deflation need not be a death spiral (where frozen consumer spending and business investment lead to even weaker growth and even lower prices). Still, very low inflation can create significant problems for an economy.
Fiscal policy in the euro area, as with the U.S. last year, is going in the wrong direction. Reducing the size of the government may indeed be a worthwhile goal in a healthy economy, but in a gradual recovery, it is simply bad news (“contractionary” policies are contractionary!). None of that appears likely to change anytime soon. French President François Hollande recently sacked his finance minister after he opposed austerity.
That leaves the European Central Bank as the only game in town, but there are limits to what a central bank can achieve when faced with the zero lower bound on interest rates. The ECB’s asset-purchase program may help, but it’s unlikely to be enough. Draghi indicated that asset-backed securities would be accepted as collateral, not purchased outright (hence, technically not “quantitative easing”). However, in his press conference, Draghi indicated that the ECB’s Governing Council did discuss QE and officials were split in both directions (some wanting to do more, some wanting to do less).
Scotland will vote on independence on September 18. The “no” vote is expected to win, but polls currently suggest that it’s a lot closer than was anticipated a month or two ago. Scottish independence would generate some economic dislocations in the short term. Hence, financial market participants should pay attention – that is, once they’re done listening to Yellen.