Today’s U.S. labor market report solidified market expectations that the Federal Reserve will raise the fed funds rate by 25 basis points at its two-day meeting next week.
February’s payroll gains were solid at 235,000, boosting the three-month moving average to 200,000 per month, up from the 150,000 average in December. To be sure, a few one-off factors supported job gains in February: Unseasonably warm weather contributed to the biggest gain in construction payrolls since the housing boom before the 2008 financial crisis, and the volatile education services sector recorded a surprising 30,000 rise. But even after adjusting for these factors, today’s report was still solid compared with the 70,000–120,000 range of payroll gains needed to sustain labor force growth when the economy is at full employment.
Moreover, the current 4.7% unemployment rate is consistent with the Federal Open Market Committee’s (FOMC) median projection for the end of 2017, and positive revisions to average hourly earnings boosted the year-over-year rate of wage inflation to 2.8%, up from 2.5% in January – factors that strengthen the case for additional fed funds rate hikes.
Labor force participation keeps ticking up
What was perhaps more interesting to us about today’s report, however, was the labor force participation rate: Participation ticked 0.1 percentage point (ppt) higher in February, to 63.0%, and is now 0.4 ppt higher than in November 2016 and 0.6 ppt higher than in September 2015 (when the rate troughed at 62.4%).
We’ve been surprised to see these post-election labor force gains. As we stated in an early November blog post, the increase in the labor force for the better part of 2016 resulted primarily from a decline in long-term unemployed individuals dropping out of the labor market, rather than the return of previously discouraged individuals. The historically low labor force dropout rates, coupled with a still low probability of these long-term unemployed individuals gaining work, led us to believe labor force gains had largely run their course and that the participation rate would begin to trend lower as a result of demographic and other secular trends.
But a deep dive into the Current Population Survey (CPS) data uncovers how the factors driving the participation rate higher since November are somewhat different from those earlier in 2016. The labor market flows data continue to indicate that the participation rate increase has resulted from a decline in the pace of individuals dropping out of the labor market. However, since November, declining dropout rates have not been concentrated in the long-term unemployed; rather, dropout rates among individuals unemployed for under a year have fallen notably and are currently at or near three-year lows. Furthermore, the increase in participation has coincided with a decline in the number of prime-age men not in the labor force, who had previously reported not wanting a job, which contrasts with the pre-election trend decline in the number of prime-age women not in the labor force.
Are men feeling more optimistic?
How do we interpret these shifts? The statistics are noisy, so we will continue to monitor the data for confirmation of recent trends. That said, the post-election surge in consumer confidence could be causing individuals – and men in particular – to look for work longer than they otherwise would have. This is particularly interesting given the Trump administration’s campaign promises to increase employment and reverse the trend decline in labor force participation among prime-age males over the past few decades. To be sure, higher rates of disability and a rise in the number of men who report not wanting a job have contributed to the decline in male labor force participation, raising questions about the extent to which a strong labor market can reverse these more secular trends (this issue has received more attention in academic circles of late).
Still, on the margin, the post-election trend in the labor force participation rate is worth paying attention to. If dropout rates remain low and individuals begin coming back to the labor market, the increased labor supply would likely damp wage inflation and potentially argue for a more gradual pace of Fed rate hikes.
Tiffany Wilding is a PIMCO economist focusing on the U.S. and is a regular contributor to the PIMCO Blog.