Disappointing Jobs Data Show The Fed Was Right

Unemployment fell in December, but so did its relevancy as an indicator of the recovery.

Jan 10, 2014 at 10:15AM

Although we don't believe in timing the market or panicking over daily movements, we do like to keep an eye on market changes -- just in case they're material to our investing thesis.

With the release of disappointing employment data for December, stocks were down this morning, with the S&P 500 and the narrower Dow Jones Industrial Average (DJINDICES:^DJI) dropping 0.17% and 0.24%, respectively, at 10:15 a.m. EST. However, the pessimism trade is working -- the SPDR Gold Shares ETF (NYSEMKT:GLD), the most popular gold-backed exchange-traded fund, was up 1.3%.

Yesterday, I wrote that "in light of the positive surprises [on employment indicators this week], there appears to be some room for an upside surprise [from the Department of Labor's December employment report] tomorrow." I was half right.

The unemployment rate did fall by three-tenths of a percentage point to 6.7% last month. At first glance, that was much better than expectations -- a Reuters poll of economists had the rate remaining unchanged. However, this was the "wrong" sort of decline, stemming mainly from people dropping out of the labor market (and therefore no longer technically unemployed) rather than finding jobs. Indeed, the 74,000 increase in nonfarm payroll employment in December pales in comparison to the 490,000 fall in the number of people counted as unemployed.

The labor force participation rate -- the proportion of working-age Americans who are employed or are looking for a job -- fell 0.2 percentage point to 62.8 percent. That erased the 0.2 percentage point uptick in November, sending the participation rate back down to a more than 35-year low:

US Labor Force Participation Rate Chart

US Labor Force Participation Rate data by YCharts.

For more context to understand how disappointing the 74,000 increase in payrolls is, consider that monthly job growth averaged 183,000 in 2013 (and essentially the same in 2012, at 182,000). While this could well be an aberration linked to the cold weather, for example, I think this report helps to vindicate the Federal Reserve's decision to decouple its forward guidance on interest rates and asset purchases from an unemployment rate that is running ahead of the underlying economic recovery.

As outgoing Fed Chairman Ben Bernanke said at his Sept. 18 press conference: "The unemployment rate is not necessarily a great measure, in all circumstances, of the state of the labor market overall. ... There is not any magic number that we are shooting for. We're looking for overall improvement in the labor market."

At the outcome of the December Federal Open Market Committee meeting, the Fed announced that it will likely keep interest rates at zero "well past the time that the unemployment rate declines below 6.5%." At that meeting's press conference, Bernanke said he expects "there will be some time past the 6.5% level before all of the other variables we'll be looking at will line up in a way that will" give the central bank the confidence to raise rates.

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