Vital signs: the missing link between labour markets and growth

Vital Signs is a weekly economic wrap from UNSW economics professor and Harvard PhD Richard Holden (@profholden). Vital Signs aims to contextualise weekly economic events and cut through the noise of the data impacting global economies.

This week: Minutes from the Reserve Bank of Australia, the last meeting of the US Federal Reserve; car sales in Australia, unemployment.

The RBA minutes were not what I would call a riveting read. It almost verbatim confirms what was announced in the statement of monetary policy: last month’s the unemployment rate dropped (although January’s monthly figures show a surprise bump, for some reasons I will discuss further below) and the labour market is looking OK; housing price growth has slowed in Sydney and Melbourne easing concerns about a bubble, and inflation remains subdued. Essentially, no need to cut rates right now, but there seems to be some wiggle room if a cut is needed in coming months.

The minutes of the Board of Governors of the Federal Reserve System really were interesting. Having previously flagged a sequence of rate hikes throughout 2016 and into 2017, the Fed now appears unlikely to raise rates any time soon. Concerns about China, recent financial market volatility, and low inflation expectations all push in the direction of accomomodative monetary policy. Markets are now pricing in a 50% chance that the Fed won’t raise rates at all this year. This is quite a turnaround.

There appeared to be two schools of thought on inflation among the members, with the minutes noting “Several participants reiterated the importance of monitoring inflation developments closely to confirm that inflation was evolving along the path anticipated”. Translation: some people are still worried about inflation taking off.

The real puzzle is why, with the US labour market seemingly recovering reasonably well –the unemployment rate fell to 4.9% in January – that inflation and inflation expectations remain so low. Either unemployment is not being measured correctly or the traditional relationship between unemployment, inflation and growth has broken down.

This will be the key thing to watch in macroeconomics in 2016.

Other data released this week included new car sales in Australia and the amount of global trade with China and Australia’s unemployment figures.

New car sales rose slightly in Australia in January, to an annual rate of 5.1%, reversing a decline the previous month–though the holiday period may well have been to blame for that. This is a useful measure of consumer confidence and access to credit, and it reveals a moderately positive view.

The unemployment rate in Australia rose, surprisingly, from 5.8% to 6.0% in January. This appeared to reflect some mean reversion from the very strong figures in late 2015. There are also perennial concerns about the quality of these data, so this result is unlikely to have a significant impact unless the unemployment rate continues to rise over coming months. The participation rate was constant at 65.2% reflecting a degree of confidence from job seekers.

Trade with China, on the other hand, fell significantly. Exports were down 6.6% measured in the local Yuan despite market expectations of an increase. Imports fell by even more, down 14.4%. This reflects a continued slowing of growth of the Chinese economy, but also weaker demand conditions around the world. Markets seemed to take the figures in their stride, but the condition of the Chinese economy remains a material concern for the global economy.

In sum: more uncertainty in financial markets, an improving labour market in Australia and the US, but no signs of much growth.

And it is the lack of evidence of the long-trusted relationship between the labour market and GDP growth that is particularly puzzling and concerning. If this link has broken down then economists and central banks will have to rethink both models and policy approaches.