And other reasons for the Fed to hang fire.
Originally published June 20, 2008
The BLS reported a sharp jump in state unemployment rates this morning, further evidence of a slackening job market. That, plus the performance of capacity utilization, suggests that the Fed is likely to hang fire for months to come - especially since gas prices seem to be doing a lot of their tightening work for them.
The big news in the June 6 BLS release on national employment was the big jump in the unemployment rate. We've been waiting for the last two weeks to see if there were some regional anomalies in the increase, but we need look no further than the first sentence of the summary in this morning's BLS release on state and local employment trends. "Virtually all regional and state jobless rates increased in May." It's an ugly table: Thirty-seven states reported statistically significant increases in unemployment, and only one state, Louisiana, reported a decline. The Midwest saw the biggest jump, +0.8 points, and the Northeast, South and West all posted gains of .5 points, right in line with the 0.5 increase reported for the nation as a whole in early June.
The state establishment survey put in a stronger performance. Bucking the national trend, employment rose in 30 states in May, and total state employment rose by 30,000 (vs. a national payroll decline of 49,000). But that follows a decline of 142,000 in total state employment in April (vs. -28,000 nationally). Over the two months, the decline in total employment exceeds the national decline by 35,000. Yearly growth in the sum-of-the-states measure is now 0.3%, slightly ahead of the 0.2% rate for the national establishment survey.
CAPACITY UTILIZATION AND THE FED
We've been arguing that worries about imminent Fed tightening have been overdone. One reason for this is the fact that, as we've noted, the Fed has almost never tightened policy before a cyclical peak in unemployment; it usually waits until the jobless rate is a half-point off its peak. Much the same can be said of another indicator the central bank watches carefully: capacity utilization. On average, the Fed begins tightening when utilization is 3-4 points off its cyclical trough; right now, it look like utilization is still falling. The only exceptions to this rule were in 1975 and in 1980. In both cases, however, utilization had fallen sharply from its cyclical peak over the course of many months, the real federal funds rate was around -4% (vs. -2% now), and inflation was in the 8-10% range. So this is further support for the idea that the Fed may talk tough, but isn't likely to turn hostile unless the economy picks up seriously in the next few months.
For a historical graph of capacity utilization, see:
It's hard to look at that and see the Fed tightening the screws anytime soon.
GAS PRICES PUMP THE BRAKES
There is mounting evidence of one thing: gas prices are pumping the brakes for the Fed. Even if you manage to ignore the noisy FOMC members, the consumer is telling us that something's got to give: 37% of Americans have cancelled their vacation plans because of gas prices, up from 26% two years ago; fuel prices climbed into second place among our primary concerns, edging the situation in Iraq for the first time (Gallup); and 75% of Americans say rising gas prices are a hardship--make that a "serious hardship" for 51%--up 14 and 17 points in just one month. Miles driven fell this spring for the first time since 1979 but, even so, 60% of Americans are cutting back "significantly" on other purchases as they try to stay afloat.
One of the factors in the increasingly sour mood is the sharply rising percentage who believe high gas prices are here to stay, which makes it likely that changes in spending behavior are here to stay as well. Back in late 2003, 65% of Americans believed that high gas prices would be temporary, while 33% believed they were permanent. Currently 78% believe they are permanent, while just 19% believe they are temporary. The increasing number who believe the spike is permanent made us wonder if the Energy Intelligence Daily has a wider readership than previously thought. One of their anonymous authors made the sobering point that the Chinese use only "as much oil per capita *now* as Americans did in 1905, three years before the first Model T Ford rolled off the production line." Add world turbulence and speculation to that kind of pressure from demand, and it sounds like the 78% have it right. Their concerns will be effective in further slowing consumption.
There is a long-standing relationship between Fed moves, the unemployment rate, and capacity utilization, and it's about as hard to imagine a surge in hiring or utilization in the coming months as it is to imagine a reversal in gas prices' upward spiral. Our bet is that FOMC members will continue to talk a lot--why would that change?--but that they will move in line with their historic trend, which is, not yet.
- Philippa Dunne & Doug Henwood