Last Friday’s jobs report was underwhelming.  The U.S. economy only added 150,000 new jobs, down from 297,000 in September and below economists’ expectations.  The report also revised down the number of jobs reported to have been created in the prior two months by 101,000.

The unemployment rate crept up to 3.9%.  While still below historical averages and what is considered “full employment”, it’s the highest unemployment rate in almost two years. 

The number of jobs created and the percentage of Americans who are employed are considered “leading indicators”, meaning they tell us more about where the economy is going than “lagging indicators” that tell us where it has been.  The slowing job growth and rising unemployment indicate an economy that is slowing down.  So naturally…the stock market rallied on the news.  What gives here? 

We’re at a point in the economic cycle where “bad news is good news”.  Before continuing, it’s important to take a moment to remember that Economics is called “the dismal science” for a reason.  Economists are the only people that look at rising unemployment and fewer jobs being created and call it “good”. 

In this case, “good” means it’s helpful to achieve policy objectives. In plain English, the Federal Reserve and those who trade U.S. bonds are seeing what they need to see to believe that inflation is finally coming closer to being under control – and thus demand lower returns on long term bonds and loans.

The wave of inflation that the U.S. began to experience in 2021 had two main drivers which occurred simultaneously:  Congress authorized trillions in new spending to flood American consumers with cash in an effort to ensure as many businesses as possible remained solvent during Covid-induced shutdowns.  In addition, the Federal Reserve cut short term interest rates to zero and bought bonds, flooding financial markets with newly printed money.

Again, in plain English, we spent a lot of money that we didn’t have (and didn’t previously even exist) to create demand at a time when businesses were closed and were unable to supply goods.  Basic economics is that when supply goes down and demand goes up, prices are going to go up, and they did.

Undoing a few years of this policy has not been easy. With Congress and the Administration continuing to pretend they share no responsibility for the inflation that resulted, Jerome Powell and the Federal Reserve have been charged with playing a game of economic Jenga.  They’ve had to try to remove parts causing high prices without toppling the structure of a strong economy.

The primary tool at Powell’s disposal is interest rates, and he’s been methodically using it like a meat axe.  The tools of fiscal policy, after all, are blunt and imprecise.  Short term rates have gone from near zero to 5.5%.  

It’s important to understand that doesn’t mean rates have increased by just 5.5%.  If you were borrowing at a .25% interest rate from the Fed’s commercial window before the rate hikes began – as banks were doing - your cost of borrowing has gone up 2200%. 

As that trickles through the economy, we’re now seeing mortgage rates in the 8% range, which have raised the borrowing cost for buying a new home about three times what it was just two years ago.  High housing costs have been one of the most stubborn components of the inflation index 

Last week the Federal Reserve met and decided to keep short term rates steady.  Job reports like the one released Friday indicate that rates may be working to cool the economy without killing it.  

Employment remains high, but the demand for labor is cooling to more closely match the supply of labor. Likewise, goods that had been unable to produce supply to match demand – such as cars – are seeing equilibrium return to the market.

What economists want to see most of all is markets clearing – that is where supply meets demand.  This provides a certain level of stability to the economy, and with stability comes the ability of consumers and producers to have “rational expectations” about the future.

Which brings us back to how this “bad news” is actually “good news”.  What the labor report and other current economic indicators are signaling is that we’re approaching the end of the “post-Covid” economic era. 

This presumed good news must also be tempered with caution.  While economic effects of the Covid shutdown are not going to be the driving force of economic decisions going forward, the debt generated during this time – along with the debt we continue to generate with every growing deficits – will come much more into focus.  Without looking at this growing threat with actual solutions, last week’s sharp drop in long term interest rates will likely be temporary.