The employment report should show job growth well below 2006's monthly average. But other data will support the Fed's focus on inflation
The pace of U.S. job growth should slow markedly in December. We at Action Economics expect that the December employment report, scheduled for release on Jan. 5, should show nonfarm payrolls growth of 80,000—close to the 79,000 gain in October, but well below the 132,000 gain in November. However, the December report should also show strength in the workweek and earnings data that will keep inflation concerns at the Fed intact.
Our December payroll forecast is well below the average monthly gain of 149,000 posted so far in 2006. Revised data for 2006 has shown solid hiring in the first quarter, an energy-price related pause in hiring in the second, an offsetting acceleration in August and September on the energy price unwind, and more subdued growth since.
Here are the factors that helped us put together our forecast for December:
Four industries have accounted for all of the slowdown in job growth this year:
Construction employment lost 53,000 jobs in October and November, though it has added 42,000 jobs so far in 2006, compared with 295,000 jobs in 2005 and 310,000 jobs in 2004.
Manufacturing payrolls have dropped for five straight months—losing 95,000 jobs over the period.
Before November's 20,000 increase, retail employment increased in only two of the last 10 months, with a cumulative decline over the period of 91,000. The last time we saw a worse stretch was in late 2002 and early 2003.
The bellwether "temp" employment series has lost 32,000 jobs so far in 2006 compared with adding 167,000 in 2005 and 150,000 in 2004. This is the worst stretch since early 2003. The temp series is viewed as a leading indicator for job growth, given the ease of hiring/firing these workers.
We expect the December employment report to bring a similar mix of weakness in these industries, but gains across most other sectors.
The household survey
The household measure of job growth (used to derive the unemployment rate) has revealed an average monthly gain of 225,000 so far in 2006 compared with 232,000 in 2005. As we frequently note, the household survey is less subject to annual revisions even though it's more volatile on a monthly basis, hence providing a good indicator of eventual payroll revisions.
Annual benchmark revisions for the household survey will be released with the December employment report. This year's consistent message from the household survey: we have yet to see any meaningful slowdown in hiring, despite lingering market fears about a hard landing.
Wage growth on a year-over-year basis has risen steadily since the start of 2004, and compensation cost growth has maintained a steady uptrend this year. Nominal earnings growth is near two-decade highs, and the partial reversal in the big commodity price surge this year has allowed real earnings to finally start to catch up. A continued tight labor market alongside the correction in headline inflation should allow big gains in real earnings growth well into the first half of 2007.
Forecasts and revisions
Median payroll forecasts have moved lower in the second half of 2006 with increased slowdown fears. The average median forecast has been 126,000 in the second half of the year compared with 197,000 in the first half of 2006. This drop is partly due to the "as reported" figure undershooting the median in six out of the last eight months—by an average of 41,000. But, big subsequent upward revisions have left actual payroll gains over the period only 8,000 below the median estimate.
Historically, end-of-year job attrition begins to kick in for December and, especially, January. Given the still-tight labor market, the risk is less job attrition than what is historically the case, which suggests some upside risk to December payroll growth.
Other job-market indicators
The December ADP Employment Survey reading of -40 translates to a 25,000 drop in nonfarm payrolls given a likely 15,000 bump in government workers. The ADP figures have not fit the payroll numbers as closely as some might have thought, overshooting payrolls by 43,000, on average, since the figures have been released real-time in April.
Weekly initial jobless claims through late December have a month-average of 314,000, compared with the averages of 327,000 in November, 311,000 in October, 314,000 in September, 317,000 in August, and 313,000 in July. Overall, the initial claims data suggest no big change in labor market trends.
The current conditions series from University of Michigan's consumer sentiment and the Conference Board's consumer confidence indexes both suggest upside risk in December. The Michigan series rose to 108.1 from 106.0, while the current conditions series from the Conference Board rose to 129.9 from 125.4.
The employment components from the factory sentiment surveys now sit around the weakest levels of the year in December, which implies risk of net job attrition in manufacturing payrolls this month.
The nonmanufacturing ISM employment component will also be important. Employment inched up to 49.7 in December from 49.2 in November, though it remains below the critical 50 mark. This measure has moderated in the second half of the year to more sustainable levels, following the robust figures for much of 2005 and early 2006.
While the market remains concerned that housing sector weakness will permeate other parts of the economy, we would not view December employment figures in line with our forecasts as signaling a change in trend, despite the expected lean payrolls number. The data should leave the Federal Reserve comfortable with its greater focus on inflation pressures rather than downside economic risks.