There is absolutely no question that the single most watched and anticipated piece of regular economic data that markets focus on is the US ‘non-farm payrolls’ report –or simply ‘NFP’, if you’re trying to flaunt your market creds.

In theory, there is very good reason for this. Employment plays a vital role in both the economic growth process and the inflationary process. The cherry on the cake is that the mack daddy of global central banks – the US Federal Reserve (the Fed) – is congressionally mandated to care about employment.

So, jobs matter. A lot. In normal times there should be a healthy degree of scepticism about how much we can truly learn from an individual report. After all, this is survey data. It uses a fairly small sample and a mountain of statistical jiggery pokery to ascertain a pretty real-time picture of the health of the labour market in an economy of over 300 million people. The statistical body responsible for producing this data, the Bureau of Labor Statistics or BLS, admits that in any given month its level of confidence in its accuracy is in the order of +/- 100,000 jobs. Meaning that if the market is expecting 100,000 jobs to be added in a given month, then investors should be relatively ambivalent about any number reported somewhere between 0 and 200,000. Of course, that is not how things actually play out. Markets can, and frequently do, go haywire because of a ‘miss’ or a ‘beat’ of much smaller size than the BLS’s advertised level of statistical confidence.

The period during and since the COVID pandemic has been anything but normal. This fact alone has made parsing economic data as perilous as producing it. On top of this, it is a matter of historical record that the reliability of the initially published jobs numbers decreases meaningfully during periods of inflection in the labour market – i.e. when we go from good times to recession or when we are beginning to emerge from recession. There are valid reasons, both fundamental and statistical, why that should be the case.

Looking at a wider range of sources of data on the labour market, including other data collected by the BLS, it has been clear to us for over a year that the health of the labour market was being overstated by the headline, and much followed, NFP data.

It was thus no surprise to us whatsoever when we began to see significant negative revisions to the last 12 or so months of NFP data. However, it was clearly a nasty and highly unwelcome surprise to the sitting president as, after the most recent revisions, he fired the head of the agency involved. I fear that shooting the messenger isn’t going to make much difference to the health of the labour market. In fact, one might suggest that the president has just increased unemployment, to the tune of one former head of the BLS.

I mention all this not to decry presidential interference or to make some hysterical point about institutional independence and credibility. Nor am I seeking to extrapolate this recent action into a forecast that the US will soon be a banana republic destined to borrow from financial markets at 15% and then serially default.

No. In fact, I am far more interested in talking about employment, unemployment and how we, as investors, should view recent news about the US jobs market.

At the outset I stated that employment plays a vital role in the processes of both economic growth and inflation – and that’s true. To a point. If I were being more accurate (pedantic I hear you cry!), I would say employment plays a vital role in the process of economic growth and unemployment plays a vital role in the process of inflation.

Let’s start with the easiest of the two processes, employment and growth. I can put it no more simply than this – people with jobs tend to spend more than people without jobs. That means when someone gets a job they are likely to contribute more to the economy than they did when they didn’t have a job. So far so good? Furthermore, this process is additive and exponential. As demand increases, as a result of more and more folk moving from not working to working, it has the effect of requiring companies to hire more people to service and satisfy this additional demand. Jobs create demand and demand creates jobs. A virtuous circle and the very beating heart of the economic cycle.

This is what is happening when an economy is growing in a normal and healthy fashion during the period between recessions. The good times.

Inflation has a slightly different dynamic. Yes, it is broadly true that inflation is more likely to be higher when demand is stronger. But specifically what matters is demand relative to supply. When demand is higher than available supply that’s what will tend to push up prices and create inflation. Now supply can be measured in a number of ways but, with respect to the role that workers play, the key concept is ‘full employment’. If you want to get geeky – the term is the ‘non-accelerating inflation rate of unemployment’ or NAIRU. Unfortunately for politicians, this rate is not 0%. This is for many reasons, which I shan’t go into, beyond saying how amazing It would be if everybody could get the job they want and/or are qualified for. Unfortunately for economists we never know at what level full employment sits. In theory though, we know where it was when we have gone past it and can see inflation increasing or decreasing.

Are you still with me? Good.

So why am I making this distinction today?

What’s interesting (OK I find it interesting maybe you really don’t) is that after all the revisions to the NFP data it now appears that, rather than adding around 150,000 jobs per month for the last year, in fact only around 75,000 were added.

However, this change has had no meaningful effect on reported unemployment. The data which feeds the official unemployment rate comes from a different survey to the one which feeds the NFP report. But above and beyond that, there is a suggestion the drop in jobs growth reflects a reduction in labour supply that is basically the result of Donald Trump’s anti-immigration policies. For that reason, some might suggest, we don’t need to worry as it won’t have any impact on inflation and thus the Fed won’t have to do anything.

I think this interpretation misses the point. I agree that the revised data doesn’t directly have a dramatic influence on the rate of inflation or the Fed’s full employment mandate. However, it should not be ignored.

When I talked earlier about the role employment growth plays in the economic cycle, I only highlighted the scenario of people moving from unemployed to employed. This increases demand for goods and services and ultimately demand for labour, in a virtuous cycle. Alas, the reverse is also true. In fact, the reverse tends to be a far more rapid and pernicious process. When you look at a long-term chart of employment growth you will see that it tends to go up on the escalator but down in the elevator. An economy can lose in one year the number of jobs that it created in 10 years.

It is this dynamic that I believe has been missed (or wilfully ignored) in much of the analysis I have read concerning the jobs market in the US, in the aftermath of what have been historically large negative revisions. These revisions have historically occurred when the labour market is entering the recessionary phase. The fact that the decline in job growth may have a significant supply-side cause does not ameliorate the fact that fewer jobs are being created. All else being equal, that will lead to reduced aggregate demand, which over time is likely to result in lower demand for employment. If that process is now significantly underway then there is no more powerful or relevant force for investors and central bankers to concern themselves with. It’s thus no surprise that the Fed has just cut rates, in spite of optically elevated inflation – and if the jobs data continues its current trend, then more cuts are sure to follow. The bond market is sniffing this out. So are currency markets. Other markets are, as is often the case, sticking with those rose-tinted specs for now. Time will tell.

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