Economic Indicators: Unemployment
The unemployment rate as a critical economic indicator
Unemployment is a key indicator of how an economy is performing. As a trader, you need to take notice of changes in unemployment levels.
In addition to controlling inflation, the part of the US Federal Reserve’s dual mandate is the pursuit of maximum employment. This compels the Fed to pursue a monetary policy that enables moves towards full employment. Changes to the labour market in the US are, therefore, key to the outlook for monetary policy.
Unemployment tends to be looked at as a lagging indicator. Unemployment will usually increase in response to an already deteriorating economy, as employers will tend not to lay off staff until a downturn in their business actually sets in. Despite this, you should still take note of changes in unemployment data, as central banks will often be reactive and not proactive to shifts in the economy.
KEY INDICATORS:
Non-farm Payrolls (monthly employment data for the US, released on first Friday of the month).
This is generally considered by traders to be THE MOST IMPORTANT DATA released every month (outside of monetary policy decisions).
Watch for:
- Unemployment for US, UK, Eurozone
- Earnings growth for US & UK
INFOBOX: Why are traders fixated on Non-farms payrolls?
- Traders want to know how employment is progressing in the world’s largest economy.
- Employment is seen as a driver of future economic growth.
- The more people that have jobs, the better their spending power in an economy that is 70% consumption-based.
As part of the Non-farm Payrolls report, wage growth is also key. The more money consumers have in their pockets, the better the outlook for discretionary spending.
The importance of Non-farm Payrolls
The Employment Situation report is the most important single monthly economic data release. Non-farm Payrolls data tell the market how many jobs the United States economy has added or lost in the past month. The name derives from the fact that it does not include the volatile farming industry.
The report is predominantly released on the first Friday of every month and is notorious for creating elevated volatility across the financial markets.
Why is payrolls data important for major markets? Because of the international connectivity of financial markets. It is a gauge of risk appetite and has a key impact on US Treasuries and the US dollar. With global trade flows and investment, all major economies have an interest in the strength of the largest economy in the world.
What to look out for in the Payrolls report
The headline jobs number is always the first factor than markets will react to. Markets will spike in the direction of the headline surprise. Also, look for revisions to prior months’ data.
Looking past the headline data is also essential. A lot of hype is ascribed to the headline number of jobs created; however, there is a lot of other important data contained in the Employment Situation report:
- Average Hourly Earnings – the measure of employee wage growth which helps to build consumer confidence and futures retail sales, which affects inflation.
- Unemployment rate – The percentage of the population actively seeking work but unable to find employment. Also, look out for the U6 Underemployment measure, which looks at those also not actively looking for work.
- Labour force participation rate – the proportion of people in the labour force that are either in work or are actively seeking work. This is important in the context of analysing unemployment as people who might be discouraged and not actively looking for a job are not included in the participation rate.
Along with Non-farm Payrolls, these three elements of the report will be considered by the Federal Reserve when it devises its monetary policy.
Experienced traders will look to weigh up different aspects of the report and not just look at the headline Non-farm Payrolls data. As such, while the market can initially spike on the headline payrolls number, the whole Employment Situation report will drive the lasting impact of the data.
The financial markets impact of changes in unemployment
Unemployment data will make its presence felt across financial markets. Looking at Non-farm Payrolls, for example, a positive surprise would suggest a strengthening of the US economy, which would increase expectations of a future rate hike by the Federal Reserve.
- Forex markets will be very volatile on the announcement with any positive surprise resulting in a strengthening of the US dollar.
- A positive payrolls number will also create a sell-off on US Treasuries (pulling bond yields higher).
- Furthermore, better employment conditions suggest a strengthening economy, and subsequently, equity markets will also push higher (this will also benefit international equities in turn).
Other minor employment indicators to look for that will also impact on US markets
- US Weekly Jobless Claims – A weekly release of the number of people in the US filing for unemployment benefits. A lower number is therefore better.
- ADP Employment Report – Announced monthly on the Wednesday before Non-farm Payrolls, gives an idea of the state of the “private payrolls” and can often give a steer for Non-farm Payrolls.
- JOLTS (Job Openings Labor Turnover Survey), as the title, suggests covers the number of job openings in the US. As part of this, it is also interesting to look at the Quit Rate which is a reflection of how confident workers are that if they quit their jobs they will be able to get another one.
