While the government's reporting of the March Employment Situation was decidedly worse than was expected, the true state of affairs in the labor market is actually much worse than reported. If unemployment is understated, as I argue herein, then economic expectations and investor enthusiasm are likely overstated. Therefore, this economic analysis is critically important, given my finding that true unemployment is likely closer to 11.9% than the government reported 7.6% rate, and true underemployment is probably closer to 17.8% than the government's reported U-6 figure of 13.8%.
The problem is that the government's data excludes many Americans who have fallen out of the labor force. Not including these people assumes many have chosen early retirement or to dedicate their lives to the Peace Corps., but that is not likely the case for a great number of them. So I think it's more likely that these people have simply fallen off the government's radar screen. When Americans stop receiving unemployment benefits, a key incentive to report unemployment to the government is lost. But even as they don't report their unemployment, they live like they are jobless, and so consumer spending and economic growth are impacted.
Starting with the Reported Data
Nonfarm Payrolls increased by 88,000 on net in March, far worse than the consensus projection of economists for 193K, according to Bloomberg's survey. Private nonfarm payrolls (excluding public sector job creation) grew by 95K, again far worse than the 200K economists' consensus. The unemployment rate was reported improved to 7.6% from 7.7% the month before, and it exceeded the economists' consensus forecast for 7.7%. So the employment situation appears to be confused based on the conflicting job creation and unemployment rate data reported by the government in March.
Cleaning the Data
There are several ways to measure underemployment, but the most common method is covered here because I believe it to be most important. I then apply a mathematical adjustment to find both the real unemployment rate and the real underemployment rate.
The underemployment equation incorporates people who are not satisfied with their less than full employment and also includes those desperate Americans who are detached from the labor force. However, even the traditional underemployment rate misses what may be a significant number of Americans who are not working and would like to be. To uncover those forgotten Americans, we replace the current labor participation rate with the one that existed when unemployment was under 5.0% instead. Whether it can ever be below 5.0% again is debatable and depends on whether unemployment is a structural issue or a temporary one. For now, we assume it is possible to get there again.
It makes sense to use such a legacy participation rate if you believe population growth and the maturing of Americans at least matches the number of seniors retiring by choice and Americans passing away prematurely. Obviously there are demographic trends at play here that are skewing the participation rate, including especially the aging of the baby boomers which is costing participation. Even so, and because of the relevant issue of long-term unemployment in America today and workers falling off the labor force radar screen while still interested in working, I believe these adjusted figures provide an important perspective of the true state of American labor. Also, it is notable that the labor force participation rate for Americans of younger age is also much lower than it was in 2007. Obviously, that cannot be related to the aging of baby boomers.
The calculation of the under-employment rate, or the U-6 by government notation, takes into account the number of Americans working part-time for economic reasons and the detached workforce. Working part-time for economic reasons is equivalent to folks who would prefer full-time employment but have had their hours cut or have had to otherwise settle for part-time work. Detached workers are those Americans who have not recently looked for work, sometimes because they do not believe work exists for them today. In getting to the U-6 underemployment figure, we'll need to include these groups of workers with unemployed Americans. If we add back the excluded 2.326 million displaced workers to the labor market, and include the 7.638 million underemployed part-timers in the unemployed count, March underemployment is found to be ((11.742M + 2.326M + 7.638M) / (155.028M + 2.326M)) * 100 = 13.8%. In February, the rate was ((12.032M + 2.588M + 7.988M) / (155.524M + 2.588M)) * 100 = 14.3%.
This data can be skewed by any of its components. Starting with the denominator, the reported labor force count decreased in March by 496K. How do that many people disappear in one month? In any event, a lower labor force figure serves to raise the underemployment rate if all else were unchanged. However that was not the case. The number of detached workers decreased by 262K in March, which served to lower the rate of underemployment. The number of part-time workers who would prefer full-time work decreased by 350K, which also served to lower the underemployment rate. Finally, the number of people actually reporting unemployed status was down by 290K, which also serves to lower the rate. Did those people find work or simply fall off the radar? Each of the last three factors adds up to a sum total of 902K less underemployed people, which is why the underemployment rate reported by the government declined so significantly. However, the drop in the labor force count shows that something is wrong here.
Historically speaking, the U-6 measure of underemployment shows improvement, as you can see by the table here. However, this improvement may be for another reason (a bad one) which is unaccounted for by this data, and which we discuss in the paragraphs below.
U-6 Unemployment Rate (Seasonally Adjusted)
What About the Forgotten?
I often talk about the great degree of long-term unemployment plaguing our nation today and how this has uniquely impacted reported employment data. The number of Americans unemployed for 27 weeks or longer decreased by 186K in March, falling to 4.611 million. This still represented 39.6% of the total unemployed count. The proportion has been on an improving trend line, though it continues to reflect poorly on the state of labor. That's because the longer people remain unemployed, the harder it gets for them to find jobs in their specialty fields due to eroding and outdated skill sets. My greatest concern is that the trending improvement in the proportion of long-term unemployment has been partly due to Americans simply falling out of the labor force count rather than finding new work.
For this reason, it's worth considering what the unemployment rate might be at a labor force participation level more closely resembling those seen during healthy times. The labor force participation rate was 63.3% in March 2013 (63.5% in February). That compares against 66.4% in November 2006 when unemployment was much lower. Now, maybe that past participation rate reflected the excesses of the mortgage, construction and finance industries that resulted from greed and the fault of the rating agencies and those industries. Those faults are still bearing out in layoffs, like the significant cuts announced relatively recently by J.P. Morgan Chase (JPM) and United Technologies (UTX). Still, let's calculate what the unemployment rate would be at a legacy participation rate, because if the economy had not been so disrupted by the financial crisis, perhaps those employed in the synthetically fattened fields might have found other work.
Applying the 66.4% rate to the noninstitutional population count in March 2013, we get a civilian labor force count of 162,676,680, versus the 155,028,000 reported (Note calculation error exists when applying the reported participation rate to the current population count because of the seasonal adjustment to the labor force count). I have attempted to back into that adjustment and apply it to the theorized labor force count achieved above, resulting in this figure for the adjusted labor force: 162,733,171). After that adjustment, the difference from this March's workforce count is 7,705,171 million Americans who would be added to the unemployed count as well. So if those 7.7 million (600K more than last month) Americans have simply fallen off the radar, the true unemployment rate could be as high as 11.9% (not 7.6%), which is up one-tenth of a point from February 2013, not down one-tenth as reported. Likewise, the real underemployment rate could be as high as 17.8% today, which is down from 18% in February 2013.
Those are significant differences reflecting a poorer state of health for American labor and the economy than the government indicated in March. What's worse is that the real unemployment rate actually deteriorated in March, while an improvement was reported by the government. The report is misleading, and given the message conveyed by so many other recent economic data points, investors are now rightly questioning the situation.
The SPDR S&P 500 (SPY), SPDR Dow Jones Industrial Average (DIA) and the PowerShares QQQ (QQQ) gained 12%, 14.3% and 7.6%, respectively, year-to-date through April 12, 2013, after adjustment for splits and dividends. Gains were fueled by massive capital inflows into equity funds from flows out of money market funds, precious metals and other safe havens like the SPDR Gold Shares Trust (GLD). However, given the economic data trend of late, investors are starting to reevaluate the situation.
Employment services stocks and several of the nation's largest employers have traded mixed since the employment data release. It is surprising, especially considering that closer inspection of the data evidences a troubled labor market. Given the latest news about consumer confidence and retail sales released Friday, you would expect the performance of the shares below here to be decidedly poor.
April 4 - 12
Robert Half Int'l (RHI)
Monster Worldwide (MWW)
The economic takeaway here should be that America's unemployment troubles could be significantly understated. As I have stated in the past, such a burden combined with increased payroll taxes should weigh on consumer spending growth and act as a drag on economic expansion. Evidence of such economic deterioration is mounting. Therefore, fiscal and monetary policy should remain supportive of economic growth, and job creation.