The labour market is doing great, said Federal Reserve Chair Janet Yellen.
“The strong labour market is attracting people from outside the labour force back into employment,” she said in her press conference following Wednesday’s FOMC interest rate decision.
In fact, Yellen pointed to the strong labour market as evidence a Fed rate hike is looking more likely by the end of the year.
It’s great news right?
Actually, not so much, argues Omar Scharif in a Societe Generale research note on sent out to clients on Thursday.
The increase in the labour force participation rate isn’t because of new entrants into the workforce, he said. Instead, the labour force is rising because fewer people are exiting the workforce.
Since March, entries into the workforce have been declining, and the most recent six-month average figure of 6.22 million entries was the lowest since December 2009 and substantially lower than the rate of 6.5 million, which has remained steady for the past six years.
Meanwhile, exits from the labour force have dropped sharply, from 6.57 million in September 2015 to 6.22 million in March 2016.
While there are different flows in the labour market, the overall change in the labour force each month is whittled down to entries minus exits. From October 2015 to March 2016, that total has jumped by 1.86 million, while the total labour force increased by 2.42 million.
Since entries into the labour force didn’t really change over this time period, it was the decline in the number of people leaving that propelled the size of the labour force higher.
This is an entirely different dynamic and changes the meaning behind the labour force market numbers.
More recently, argues Scharif, both entries and exits have been plunging. The slowdown may “reflect caution on the part of both employers and employees about the health of the labour market and prospects for the economy in the future,” Scharif said.
For now, it looks like the “strong” labour market may be a short term positive lacking the fundamental expansion to back it up.