Payrolls, Prices, Productivity and Profits Hold the Answer to the Puzzling US Economy

(Bloomberg Businessweek) — If you love puzzles, this is the economy for you. The data are so mixed, even the experts are stumped. Gross domestic product has expanded at an average annual pace of just 1% over the past five quarters, less than half the rate seen in the last economic expansion. Recession warnings abound, as do layoff announcements by well-known companies, from Goldman Sachs Group Inc. to Best Buy Co.

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Yet the labor market remains robust. Companies took on 339,000 new workers in May, more than triple the increase many economists reckon is consistent with an economy that’s neither too hot nor too cold. It was the 14th straight month the increase in payrolls exceeded expectations.

To make sense of it all, it helps to focus on the four p’s: payrolls, productivity, profits and prices. Their interaction helps describe where the economy is—and where it may be headed. The message in the data: Barring a credit crunch from the recent banking industry turmoil, the US may well dodge a recession. Yet it could end up in an unsatisfactory equilibrium between anemic growth and still-elevated inflation. Then it will be up to Federal Reserve Chairman Jerome Powell and his colleagues to decide whether that’s good or bad. Can they live with an inflation rate above their 2% target, or will they feel compelled to drive unemployment up to bring price pressures to heel?

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Perhaps the biggest surprise about the economy has been the strength of the labor market. Yes, there are some signs of softening: Unemployment rose last month, and the average number of hours worked slipped. Yet joblessness remains near a half-century low, and companies keep complaining about how difficult it is to find qualified staff. Job openings jumped to 10.1 million in April, the highest level in three months. “Employers are still fighting for top talent,” says Amy Glaser, a senior vice president at staffing company Adecco Group.

© Source: Bureau of Labor Statistics
US Employees on Nonfarm Payrolls |

Part of that goes back to the pandemic. Covid-19 led to a broad reshuffling of the labor market, with some industries—particularly leisure and hospitality—still unable to return to pre-crisis employment levels. “What we’re hearing from restaurant operators is that two-thirds of them say that right now they’re understaffed,” said Michelle Korsmo, president and chief executive officer of the National Restaurant Association, during a May 31 webinar hosted by the Hill.

Wage growth, though, has slowed from the early post-lockdown days, when companies were in a mad scramble to add workers. Smaller employers, many of which lack the financial wherewithal to engage in bidding wars, are now driving the job gains, and that’s taking some of the edge off pay packets.

Workers, too, have turned a bit more cautious. The quits rate—the ratio of people leaving their jobs during a month as a percentage of overall employment—fell to 2.4% in April, just a smidgen above its 2.3% average in 2019.

For all that, compensation is still climbing at a pace well above pre-pandemic levels, expanding at an annualized rate of almost 5% in the first quarter, almost double that seen in 2019. Demographics are keeping the market tight: Aging baby boomers are retiring, and comparatively fewer younger people are entering the workforce. This dynamic will keep upward pressure on wages in the coming years, no matter what happens to the economy in 2023, says Gad Levanon, chief economist at the Burning Glass Institute, which focuses on the future of work.

Rising wages and expanding payrolls wouldn’t be a problem for companies if they were getting more out of the workers they have. Early signs that work-from-home and stepped-up automation had jump-started productivity growth, which had been stagnant in the US for decades, dissipated as workers in leisure and hospitality and other labor-intensive industries returned to work. Indeed, output per hour among nonfarm businesses decreased 0.8% in the first quarter from a year earlier. “Productivity appears to be on track to fall all the way back to its pre-pandemic trend,” says Julia Pollak, chief economist at ZipRecruiter.

© Source: Bureau of Labor Statistics
US Nonfarm Business Sector Output Per Hour of All Persons | Year-over-year change

Normally, the combination of lackluster productivity and a larger wage bill would be expected to take a big bite out of company profits. So far it hasn’t, at least based on government statistics. Corporate profits rose to a record in the first quarter, after taking the Fed’s losses on its bond portfolio out of the calculation. A narrower measure of corporate profits—earnings per share of companies in the S&P 500—did slip in the first three months of 2023, by about 3% from a year ago, though that was a markedly better outcome than the 8% decline Wall Street analysts were expecting. What’s more, S&P 500 profit margins showed signs of improvement during the period, according to Gina Martin Adams, chief equity strategist for Bloomberg Intelligence.

© Source: Bureau of Economic Analysis
US Corporate Profits |

Confronted by rising costs for labor and other inputs, many companies—including Coca-Cola, Hilton Worldwide Holdings and Procter & Gamble—have raised prices to boost their bottom line.

Fortified by savings built up during the pandemic, still-healthy wage gains and lower prices for gasoline, American households have swallowed the price increases and kept on buying. “The US consumer, I think, is holding up well,” Procter & Gamble Co. Chief Financial Officer Andre Schulten told Wall Street analysts on an April 21 conference call.

© Source: Bureau of Economic Analysis
US Personal Consumption Expenditures Chain Type Price Index | Year-over-year change

So where does that leave the economy? Stuck with higher inflation and slower growth than most Americans would like.

What comes next lies mainly in the hands of another p: Fed Chair Powell. After raising interest rates by five percentage points over the last 14 months, Fed officials have signaled they’re likely to take a break from their credit tightening campaign when they meet on June 13-14, though they’ve left open the possibility of resuming thereafter.

A Fed pause now would help extend the expansion, but in the end inflation won’t fall into the central bank’s comfort zone without a recession, says Bruce Kasman, chief economist at JPMorgan Chase & Co. He sees a downturn starting toward the end of 2023 and spilling over into 2024.

In that case, yet another p will come into play: the politics of a presidential election year. —With Enda Curran

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