JP Morgan isn't convinced Australian unemployment will keep falling

Allen J. Schaben/Los Angeles Times via Getty Images
  • The RBA is optimistic about a lot of things, including the outlook for Australia’s jobs market.
  • It cited recent strength in job vacancies, currently sitting at record highs, to justify why it thinks unemployment will likely fall further.
  • New analysis from JP Morgan suggests this is unlikely to be he case.

The Reserve Bank of Australia (RBA) is optimistic about a lot of things, including the outlook for the country’s labour market.

Based on recent commentary, its optimism towards employment has only increased following the release of data showing job vacancies rose to the highest level on record in May, helping to solidify its view that unemployment will continue to push lower in the period ahead.

Indeed, despite some other leading labour market indicators weakening recently, the bank, seemingly, continues to put a lot of weight on this release.

“The outlook for the labour market remains positive,” RBA Governor Philip Lowe said in his post meeting statement in August.

“The vacancy rate is high and other forward-looking indicators continue to point to solid growth in employment… [with] a further gradual decline in the unemployment rate expected over the next couple of years to around 5%.”

Lowe doubled down on that view in a speech delivered to the Anika Foundation Luncheon a day later, noting that a “tightening of the labour market is evident in the steady increase in job vacancies, with the number of vacancies, as a share of the labour force, at the highest level in many years”.

With vacancies seemingly popping up left, right and centre across the country, it helps explain why he sees unemployment falling further, leading to increased skill shortages and, eventually, faster wage inflation.

But does this single indicator guarantee unemployment will continue to fall as it has in recent months?

Ben Jarman, economist at JP Morgan, isn’t convinced, suggesting the headline level of vacancies isn’t anywhere nearly as bullish beneath the surface.

“One has to be careful in extracting the cyclical signal from the ABS vacancy data,” he says.

“The shift in levels between [it and Australia’s unemployment rate] from the start to the end of the data indicates a persistent rise in vacancies, even scaled by the labor force, for a given level of the unemployment rate.”

Vacancy levels, as a proportion of the labour market, continue to increase, suggesting that unemployment should sit somewhere closer to 4.5% than the 5.3% level at present.

That’s shown in the chart below from JP Morgan with the two series diverging sharply in recent years.

JP Morgan

“Some of this may reflect a decline in job-matching efficiency, [indicating] that structural unemployment has risen. But the more immediate explanation is that the share of vacancies in each sector in the vacancy data is not representative, in that it does not align well with the share of employment in each sector,” Jarman says.

He says that within the ABS vacancy survey, some sectors are over-represented by a multiple of 12 to one, making it difficult to assess whether the increase will lead to continued gains in employment and a lower unemployment rate.

“The over-represented industries either have vacancies that are structurally less likely to turn into a job, or are such that a single person churns through multiple short-term opportunities,” Jarman says.

“Either way, such vacancies have much less impact on overall employment and the unemployment rate.

“A structural rise in high vacancy/employment ratio sectors — particularly in services — as a share of the economy reinforces this effect.”

Of note, Jarman says the vacancy to employment ratio for administration and support workers — where many vacancies are currently located — currently sits at 11%, hinting that many openings may be for temporary positions.

Instead of using the headline vacancy to employment ratio to hypothesise where unemployment may move next, Jarman says that by de-trending the data and weighting the sector-level vacancies by the employment share in each industry, a tighter relationship with the unemployment rate results.

“The level of total vacancies appears consistent with the current unemployment rate, rather than flagging material downside,” he says, pointing to the chart below.

JP Morgan

Given the stronger relationship between the two measures, as well as an expectation that household consumption, the largest part of the Australian economy, will likely falter in the quarters ahead, Jarman says unemployment is unlikely to fall as the RBA currently expects.

“The unemployment rate, at 5.3%, now looks consistent with levels implied by most labor market correlates,” he says.

“From here, the labor market will be most sensitive to domestic demand, particularly, consumption growth.

“The saving rate has been falling for eight years, meaning consumption growth has been running stronger than income growth.

“It is therefore likely that consumption growth has to slow further as the saving rate stabilises, to align with income growth.”

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