Dismal Employment Report: A Green Light For Rate Cut

Payroll employment rose a tepid 75,000 in May after being revised down for the previous two months. The much anticipated slowdown in hiring is now underway. The monthly gain fell within the error range of zero for this report, which opens the door for a preemptive cut in rates by the Federal Reserve in two weeks. Government hires were particularly weak. The Census Bureau did not staff up as expected during the period, while state and local employment contracted. A decline in hiring of teachers at the state and local levels accounted for much of the weakness. School districts are having a hard time replacing baby boomers who are retiring. Stagnant teacher wages are not helping.

Private payrolls came in at 90,000 in May after being revised down to 205,000 in April. The three-month moving average has slipped to just under 150,000, which marks a sharp slowdown from the nearly 200,000 monthly pace of 2018. The weakness in May was both cyclical and structural. Gains were concentrated in professional hires and health care, but moderated from the pace we saw last month. Leisure and hospitality was one of the few areas to accelerate over the month, with most of the gains concentrated in food services. We are still spending money on eating out, at least for now. Construction posted only modest gains as heavy flooding across parts of the Midwest delayed some construction activity.

The weakest sectors were mining, manufacturing, wholesale trade and retail. Mining was hurt by lower prices at the gas pump, excess supply and the push to boost productivity growth instead of adding capacity over the last two years. Manufacturing is being hit by tariffs, an overhang of inventories and a slowdown in global growth.

The weakness in retail is more structural than cyclical, as traditional retailers continue to struggle to compete with big-box discounters and online behemoths, which now include the big-box stores. Walmart and Target have invested aggressively in their online presence. Store closures surged in the first quarter, which has been hurting retail hiring ever since. Transportation and warehousing contracted, but more because of labor shortages than a lack of demand. The transportation sector is the largest beneficiary of the move to online retailing and same-day shipping. (I have found that often fails.)

Average hourly earnings moved up by 0.2% in May and slowed to a 3.1% pace on a year-over-year basis. That marks a sharp deceleration in wage gains since a peak of 3.4% in February. Wage gains remain uneven, which is unusual so late in the cycle. Wages in the transportation and warehousing sector accelerated even as hiring dropped due to worker shortages. We also saw an acceleration in low-wage jobs in the leisure and hospitality sector. The hurdle has been getting wage gains to move up the food chain into management. A shift by some of the largest retailers to raise entry-level pay at the expense of the number of managers and manager pay has derailed the trickle-up in wages that we once saw.

Separately, the unemployment rate remained unchanged at 3.6% in May, the lowest level in five decades. Unfortunately, participation in the labor force was also unchanged. We had seen a pickup at the start of the year but that has since reversed. Retirements by baby boomers are essentially offsetting an increase in participation, mostly by millennial women, since late 2015 (the trough in participation for this cycle). Hispanic women across the educational spectrum have been driving those gains.

Bottom Line
The May employment report disappointed at a critical time, when fears that the economy is slowing have flared. That weakness, coupled with a desire by the Fed to extend what has become a marathon of an expansion, has opened the door to a preemptive cut in rates by the Fed. It could come as soon as their June meeting, but will likely occur in late July.

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