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What's Wrong With the Job Market?

By Monica Rivituso
August 6, 2004

ON SECOND THOUGHT, maybe the labor-market recovery isn't in the bag.

Friday's jobs report came as a shock even to market watchers who've been cautious about the economy's expansion. The Labor Department reported that nonfarm payrolls increased by a mere 32,000 in July, far short of the 215,000 that economists had expected. Intensifying concerns, recent employment gains were also revised lower, to 208,000 from 235,000 in May and to 78,000 from 112,000 in June. The unemployment rate inched back to 5.5% from 5.6% in June, but that was little comfort to the market.

Pre-market indicators took a nasty turn south as soon as the data were released, and trading got messier as the day progressed. At 2:00 p.m. ET, the Dow Jones Industrial Average had shed 110 points, or 1.1%, while the Nasdaq had fallen 28 points, or 1.5%. The Standard & Poor's 500 had dropped 11 points, or 1%.

While the report was soft across the board, the weakest sectors were retail trade, which shed 19,000 jobs, and leisure and hospitality, which lost 2,000. There were also fewer financial-related jobs: The credit-intermediation industry, which includes mortgage banking, lost 16,000 positions, while securities, commodity contracts and investments businesses saw a decline of 4,000. Such losses offset gains in manufacturing (10,000) and health care (20,000). Not exactly the cheery news market watchers expected.

The latest report makes some investors awfully nervous about prospects in the next few months. And the timing of the bad news was awful, coming as the U.S. presidential election is heating up, terrorist concerns are increasing and oil prices are hitting new record highs with alarming regularity.

Before the report, market watchers had figured the job market would be showing substantial improvements, and that we'd be flying through the last of the economy's storm clouds. Now, economists are wondering just how bad the labor market will get, and what that might mean for the overall economic expansion.

The latest jobs data seem to indicate that the employment gains made earlier this year were largely the result of monetary and fiscal stimulus, says Vincent Boberski, director of fixed-income research and strategies at RBC Dain Rauscher. And that potent — but temporary — fuel has largely been expended, meaning future job gains won't likely be strong enough to fuel rapid economic growth. Boberski figures the economy is poised to grow only at a 3.0% to 3.5% rate for the second half of this year — far less than some economists' earlier predictions of 5% growth in 2004.

Friday's jobs report follows a mixed bag of economic releases. On the plus side, weekly jobless claims continued their retreat, and recent manufacturing readings suggested that June's economic slowdown was more of a brief pause than a full-fledged stall. But rising oil prices and tough comparisons took a toll on retailers, whose July sales rose only modestly. Consumer spending, meanwhile, took a sharp 0.7% turn south in June, the steepest decline since September 2001 and far worse than economists' expectations of a 0.1% pullback. Combined with the latest jobs report, concerns are mounting that the economy still hasn't cleared that soft patch it stumbled into two months ago.

Of course, one always must be careful when placing too much emphasis on one or even two month's worth of data. While Kurt Karl, chief U.S. economist at Swiss Re, acknowledges that the report was hardly uplifting, he'd like to see another month's worth of data before worrying about the state of the labor market — and, for that matter, the economic expansion. The improved household-survey results suggest that employers are hiring consultants or temporary workers instead of permanent workers — often the case before new jobs are added, he says. The recent soft patch in the labor market also belies some other stronger indicators, including consumer confidence, income growth and manufacturing, which could signal that additional job growth is on the way, according to Karl. He expects to see 200,000 new jobs added in August.

There could also be some seasonality to the latest jobs report, says Sophia Koropeckyj, an economist at West Chester, Pa.-based Economy.com. Right now, she says, it's too early to worry that the strong recovery of the past year has derailed completely.

July's employment report is the last key bit of economic data before the Federal Open Market Committee meeting on Tuesday. In keeping with the Fed's pledge to increase rates at a "measured" pace, a quarter-point hike raising the fed-funds rate to 1.50% from 1.25% is all but given. Even with interest rates at 2.00%, the Fed still has ample wiggle room to be very accommodative, says Boberski. Of course, if key economic data remain weak, economists say the Federal Reserve will have to re-evaluate whether it's prudent to hike rates at every meeting this year. The Fed might very well modify its statement next week to say as much.

But beyond the Fed, the health of the labor market and the state of the economic expansion, the jobs report has huge political ramifications — especially for a sitting president who has regaled audiences on the stump with anecdotes of his effective economic policies. "This report has pretty deep political implications," says Boberski. "It's going to make it difficult for Bush."

Of course, if the labor market softens further, more than an election will hang in the balance.





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