But the Job Market is Still Too “Hot to Handle” for The Federal Reserve

• Employment growth slowed to 261,000 in October but continues to run “hotter” than the Federal Reserve would like.
• The October unemployment rate rose to 3.7% as both household jobs and the labor force contracted.
• Average hourly earnings rose a moderate 0.4% in October and are up a slower 4.7% from a year ago.
• Job growth is slowing to a more sustainable pace, but more Fed rate hikes are coming in December and during the first quarter of 2023.

Employment increased by 261,000 in October, according to a survey of employers from the Bureau of Labor Statistics. The private sector added 233K jobs in October, while government employment rose by 28,000. Payroll job growth has slowed in 2022 as higher interest rates and high inflation weigh on the U.S. economy but remains above its long-run potential. Payroll job growth was revised up to 315,000 in September (from 263,000) but revised down to 292,000 in August (from 315,000).  The three-month moving average of payroll job growth through October was 289,000, down from around 600,000 at the beginning of 2022.

The October unemployment jumped to 3.7%, from 3.5% in September; it was also 3.7% in August. Employment as measured in a survey of households (different from the survey of employers) fell by 328,000 in October, more than reversing the 204,000 rise in September. The three-month moving average of household job growth through October was only 106,000, well below the pace of payroll job growth. The former tends to lead the latter measure of job gains.

The labor force fell by 22,000 in October and the labor force participation rate-the share of adults either working or looking for work-fell to 62.2%. It rose from 62.2% in July to 62.4% in August, raising hopes that the tight labor market was bring more people in off the sidelines, but the decline in both September and October is a disappointment. The labor force participation rate has been between 62.1% and 62.4% through 2022, about a percentage point lower than it was before the pandemic, and it is unlikely to move much higher anytime soon. The post-pandemic job market looks to be structurally tighter than the pre-pandemic one. The U-6 rate, which in addition to the unemployed includes the underemployed and those too discouraged to look for a job, rose to 6.8% in October from 6.7% in September.

Goods-producing industries added 33,000 jobs in October, including increases of 32,000 in manufacturing but only 1,000 in construction. Private service-providing industries added 200,000 jobs in October which was broadly based by industry, This rise includes gains of 79,000 jobs in education/health services, 35,000 jobs in leisure/hospitality services, 39,000 jobs in professional/business services, 7,000 jobs in retailing, and smaller job gains in financial, transportation, and information services. The federal government added 6,000 jobs in October, while state and local government jobs rose by 22,000.

Average hourly earnings rose 0.4% in October, slightly faster than the 0.3% rise in both September and August. Average hourly earnings were up 4.7% in October on a year-over-year basis, down from 5.0% in September and a “peak” of 5.6% in March. Wage growth is slowing but remains strong as businesses continue to compete for workers. The average workweek was unchanged at 34.5 hours. With more workers, a higher average wage, and no change in the average workweek, total labor market income rose 0.5% in October but that is below our expected 0.6% rise in the October CPI (to be released November 10).

Job growth has slowed substantially over the course of 2022 as economic growth has softened but remains well above its pre-pandemic pace. Wage growth has also slowed, but with the labor market still very tight it remains too “hot to handle'” from the Federal Reserve’s perspective. The central bank is trying to cool off growth, and inflation, by pushing interest rates higher to make it more expensive for consumers and businesses to borrow. The impact of higher rates has already shown in the housing market, with existing homes sales and single-family housing starts both down by about one-quarter from earlier this year. The Federal Open Market Committee has already raised the federal funds rate by 3.75 percentage points this year, to a target range of 3.75%- 4.00% as of this past Wednesday, and will raise it by another 50 bps in December and by at least 50 bps in the first quarter of 2023.

The Fed is hoping to cool off growth enough to bring inflation back down to 2% by late-2024 without causing a recession. But the central bank could easily overdo it, raising interest rates too much and pushing the U.S. economy into contraction. PNC’s baseline outlook is for weak economic growth in 2023 and 2024, but no outright recession, but the probability of recession over the next couple of years is around 45%, about double what it was prior to the Russian invasion of Ukraine.

PNC expects job growth to continue to slow in the near term as the impact of higher interest rates continues to filter its way through the economy. In particular construction employment continues to increase but should decline in 2023 with the steep contraction in homebuilding. Employment gains should stall by the middle of next year, before picking back up again in 2024. PNC expects the unemployment rate to gradually increase in the months ahead and end 2023 at around 4.5%.