The unemployment rate was released today by the BLS showing a drop in the rate to 3.8%. But two-thirds of the improvement in May was due to labor force dropouts and on third due to actual growth. The crucial “prime” age cohort of age 16-54 had a reduction in their Labor Force Participation Rate (due to dropouts), while the age 55+ group had an increase in participation.

  Employment had increased by 1.69% annually since 2012. The average job gains of 207,000 per month this year are far below the gains of 320,000 per month in the 1990’s. Since February, 2015 monthly payroll gains declined from 265k to 223k in a downward trendline. Labor Force Participation Rate was 67% in 2000, however, since 2014 it has been in a range close to 62.8%; this 4.2% gap, if multiplied by 150million workforce, is 6.3million people who dropped out. This is amazing, since the prime age (that needs work the most) experienced the dropouts, while the over age 55 group had an increase in labor force participation, even though some of this group might have been hoping for early retirement.

  The problem with counting employment is that the shallow “check the box” method of surveying means that if someone accepts a dead-end minimum age tippable job or even a no-wage commissioned sale gig economy “job” they are counted as employed. Tippable jobs have a $2.50 an hour minimum wage! The employment report needs to rebuilt from the ground up to follow specific workers through their lives and to screen out (or classify as effectively unemployed) statistical outliers of those who earn less than a reasonable “trimmed mean” of wages. Thus anyone earning less than 2x the minimum wage, roughly $15 a hour full time ($30,000 a year), should be excluded from a trimmed mean survey. There has been a clear pattern of discouraged workers reentering the labor force in the form of non-substantiative gig economy contingent work and for them it is less than what they may have made from a regular job they lost a long time ago. The BLS ought to use a banker’s standard of evaluating income in order to count a job: this would be done by using a two-year average for those with gig economy jobs. Workers who offer to work in a gig economy minimally skilled position are giving up a valuable free intangible option to their employer and are thus getting less total risk-adjusted compensation that if they had a traditional full time non-contingent job.
The reason economists and investors study the employment rate is to see how it affects inflation and economic growth. These goals could be better met using a banker’s criteria of what constitutes credible income generation. Thus to the extent new job growth is merely the creation of a nominal “job” that makes someone functionally underemployed then this won’t create inflation because it won’t allow access to the credit markets. (Possibly they can access exploitative “B” paper loans but those are in small amounts and are very expensive and thus unlikely to cause inflation).

   The failure of the economy to produce jobs at the same pace as the 1990s despite massive Fed stimulus and the failure of the BLS to adjust for the huge 4.2% reduction in the Labor Force Participation Rate indicate that the labor force is much weaker than a simple glance at a 3.8% “headline” unemployment rate would imply. If one adds the 4.2% missing dropouts to the 3.8% headline unemployment rate that’s 8.0% unemployed, a level of rate that is appropriate for today’s low interest rates. Might the Invisible Hand of the market actually know something in pricing bond yields to their current levels?

  To regain the labor prosperity of the 1990’s and before would require plenty of news stories about discouraged U.S. companies that tried to hire skilled workers in EM countries for $4 an hour and then the companies gave up and moved the jobs back to Developed countries and paid workers a traditional $25 an hour wage. It seems one never hears credible news stories of “reshoring” of this type.  Instead offshoring of Developed country jobs to EM countries continues to grow with more college graduate type of careers being affected, such as software, accounting, etc. The fact is that the mid-market, middle skill employment continues to go to EM countries and these displaced American workers may end up either taking a huge pay cut and working in a dead-end gig “job” or they drop out and become the discouraged hidden unemployed.
Traditionally at the top of a cycle the unemployment rate reaches its cyclical low just before the economy flips over into recession. See Kessler’s article “The last time unemployment was 3.8%”.
I suspect the Federal Reserve will use low official headline unemployment rate as an excuse to raise interest rates back to “normal” because it makes them feel good that they are preventing bubbles and raising rates high enough to be able to bring them down significantly in a recession. The great misunderstanding is that inflation is not caused by someone nominally gaining a gig economy “job”, rather inflation is caused when workers gain a quality job with hefty wage increases that enable them to qualify and get a money-supply increasing, inflation-causing bank loan. The private sector bank underwriting rules act to choke off growth of the money supply because they are smart enough to refuse loans to those who merely hold a nominal “job” but are so grossly underemployed as to not qualify for a loan. Thus I suspect the coming Fed rate increases may trigger the next recession.

  What is far more important and more likely is the risk that Italy will drop out of the Euro currency and default on its debt, thus encouraging other southern EU countries to do the same. This would be enough to tip the global economy into a big recession. Investors should focus on the risks of BBB or lower quality bonds defaulting due to a global credit quality collapse rather than focus on the risk of rising inflation increasing the discount rate and lowering the value of bonds.

   Investors need independent financial advice about the risks of misunderstanding unemployment and inflation.