INDICATOR: Fourth Quarter Productivity, February Layoff Notices and Weekly Jobless Claims

KEY DATA: Productivity: +1.9%; Annual: +1.3%; Labor Costs: +2%; Annual: +1.4%/ Layoffs: 76,835/ Claims: -3,000

IN A NUTSHELL: “Another year of disappointing productivity gains points to modest growth ahead.”

WHAT IT MEANS: Strong productivity gains are the key to solid economic growth, but that doesn’t seem to be happening. Productivity rose moderately in the fourth quarter, which was good to see. With output rising decently but wages not accelerating sharply, labor costs remain under control. That is the good news in the report. The bad news was the very disappointing increase in productivity for the year. Yes, the gain was a little better than the 1.1% rise posted in 2017, but it is nothing to be proud of. And, the low level is constraining the ability of the economy to expand. On the other hand, businesses are doing a great job of restraining labor costs. Despite labor shortages, compensation increased at a slower pace in 2018 than in 2017. And when those costs were adjusted for productivity gains, unit labor costs barely budged.

Layoff notices soared in February. Challenger, Gray and Christmas reported the highest monthly total since July 2015. The retail sector is driving the numbers as firms keep cutting back or closing altogether. Heavy manufacturing is also downsizing, though that has not yet shown up in the monthly jobs report. These are just announcements, but if or when they hit, we could see a slowing in payroll increases.

Jobless claims declined modestly last week. The level remains pretty low, so there is every reason to think that the unemployment will continue to decline this year.

MARKETS AND FED POLICY IMPLICATIONS: Growth comes from either more people working (increases in the labor force) and/or from improved output of the workforce (productivity). When you start with productivity at 1.3% and a workforce growth constrained by demographics, it is hard to see how economic activity can expand by much more than about a 2¼% pace on a consistent basis. That is why so many economists, including myself, have been forecasting for over a year that we would be headed back toward that level this year. And we are. Yes, we could get a quarter near three percent if the first quarter comes in as low as many think, but that pace is just not sustainable. Unfortunately, too many investors and talking heads drank the Kool Aide and believed we could expand at a 3% rate for years. But the reality was that businesses weren’t going to, and didn’t, use the tax cuts to greatly expand their investment in plant, equipment, intellectual property or worker training. Yes, capital spending was up, but given the huge tax cuts and incentives, the gain was disappointing. Tomorrow we get the February employment numbers and the risk is that it will be toward the downside. The outsized January increase is likely to be balanced by a less than robust February rise. Together, though, they should still point to a strong labor market. The unemployment rate should tick down. With the Fed members’ heads buried in the sand, I mean the data, don’t look for this report to change anyone’s mind on what needs to happen to rates. That would be the case if there were an upside or a downside surprise. There are just too many uncertainties and temporary factors for the Fed to be able to draw conclusions about the state of the economy.

Joel L. Naroff is the president and founder of Naroff Economic Advisors, a strategic economic consulting firm.