MNI INTERVIEW: Fed Cheers Cooling Labor Demand As Openings Dip

Rising U.S. interest rates have reduced demand for workers without pushing up layoffs, boding well for the soft landing sought by Federal Reserve officials, San Francisco Fed economist Nicolas Petrosky-Nadeau told MNI Friday.

The labor market remains tight with employers hiring at a substantially higher pace than before the pandemic and the unemployment rate at a 50-year low. But job openings and quits rates in key sectors have already fallen substantially from their peaks, meaning Fed tightening is doing its job to cool the economy, he told MNI's FedSpeak podcast. The Labor Department reported this week there were 10.1 million job openings in the U.S. at the end of August, a drop of 1.1 million from a month earlier.

The quits rate, a good predictor of real wage growth because it represents people moving to better opportunities with more pay, has also been slowing in the past six months. Quits rates in the professional and business services and retail sectors are back to where they were pre-pandemic, he noted.

“I’m looking at those as indicators that the transmission of monetary policy is working as intended and the committee is on a good path toward witnessing an orderly slowdown in the labor market.”

VACANCIES DOWN

With 6 million unemployed people in August, the vacancy to unemployment rate is between 1.6 and 1.7, above historical averages. But encouragingly, the sectors that represent the bulk of employment have already peaked, Petrosky-Nadeau said.

In the past four months, job openings in professional and business services have dropped 40%, while retail jobs over the same period have fallen over 30%. Since leisure and hospitality vacancies peaked in December, their openings have also fallen 30%.

“These are really significant drops," Petrosky-Nadeau said. “We often look at job openings as a signal of what businesses are seeing in terms of their future revenues, because it’s a really forward-looking decision. If we’re seeing a drop in their job openings, it means that in the medium term they’re expecting a slowdown in the demand they’re facing. And that’s what the committee is looking for in the tightening cycle.”

What's more, firms are lowering their job openings without dramatically increasing their separations. “It’s a silver lining,” he said.

4.4% PEAK U-RATE

As for how high the unemployment rate could go as the fed funds rate heads toward 5%, Petrosky-Nadeau said it's important to keep in mind the Beveridge curve, or the relationship between unemployment and vacancies, is likely very steep when vacancies are very high and flattens out as openings fall.

Should job openings fell to pre-pandemic levels, a calculation by him and colleague Rob Valetta shows the unemployment rate would rise to 4.4%, exactly where the median FOMC participant judged it to peak in 2022 and 2023.

“From the perspective of households that’s not a non-negligible increase, but It is still an unemployment that historically remains relatively low.”

PARTICIPATION RECOVERED

Aside from elevated openings, Petrosky-Nadeau argues the the labor market looks now a lot like it did in 2019, including labor force participation.

The employment-to-population ratio for prime-age workers recovered to pre-pandemic levels this spring, while the mechanics of an aging U.S. population explain almost all of the decline in participation since the pandemic, he said. Stripping out that effect leaves a participation rate that’s very similar to that of 2007-2008.

"Overall, the labor market is in a very good place."