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Is the economy still headed for a soft landing?
Last week, we highlighted the key to avoiding a recession in Australia in 2024 is a gradual weakening (rather than a tanking) in the labour market. Our forecasts suggest this will put a floor under real income growth as inflation, taxes and interest rates subside over the year, leaving consumers in a more comfortable financial position heading into 2025.
This week saw the release of the December labour market statistics, with an attention grabbing 65k decline in employment for the month. This was substantially weaker than the median Bloomberg forecast for a 15k gain, and our own relatively pessimistic forecast for a 10k fall. The decline is the largest monthly fall in employment since the early 1990s recession, outside the Covid lockdown periods in 2020 and 2021. Full-time employment was even weaker, falling by 107k in the month, partially offset by a rise in part-time employment.
So, is this a sign the labour market is tanking, signalling an imminent recession?
To be fair, there’s a lot of noise in the monthly employment data, and some payback was likely given the reported 117k gain in jobs over October and November. In addition, there seems to be some seasonality creeping into the monthly employment data around the timing of the peak holidays since the reopening from Covid, which we had expected to weigh on the December employment numbers. Looking at the December print in the context of the quarter however, seasonality becomes less of an issue and trends begin to emerge, and the trend is clearly toward softening rather than recession. Employment expanded by an average of 17k per month over the December quarter, down from 24k over the September quarter, and a strong 43k per month in the first half of 2023.
Slower labour demand has so far been embodied in reduced hours worked, with a shift towards part-time work from full-time, or fewer hours per employee, rather than large-scale job losses. We expect this to continue and employment growth to average around 20k per month over 2024, not too dissimilar from what we saw over the second half of 2023. The weakening in employment growth so far is not cause for alarm though, as it has allowed the unemployment rate to drift modestly higher in an environment where the RBA has been raising rates to engineer a soft landing. In fact, we believe the RBA would welcome the rise in the unemployment rate to its current rate of 3.9% (which was unchanged from November), from a trough of 3.4% just over a year ago.
How do you reconcile an unchanged unemployment rate with the sharp fall in employment?
The answer lies in a fall in labour supply of similar magnitude to the fall in employment. The labour supply can fall for two reasons: the working age population falls, and/or the participation rate of the working age population in the labour force falls. In December, the working-age population increased (rather than decreased) by 48k. Hence, the fall in labour supply came from a drop in the workforce participation rate. Falls in the participation rate often precede slowdowns in the economy, as discouraged workers leave the labour force. However, job vacancies remain elevated, suggesting that work is not currently difficult to find. The participation rate has been trending up and hit an all-time high in November, so some pull back in December was likely.
Looking forward, we expect the participation rate to remain around current levels, while we are expecting a slowing in the growth of labour supply over 2024 due to slowing population growth. In the second half of 2023, working-age population grew by an average of 53k per month; we expect this to slow to 38k/mth over 2024, helping to moderate the rise in the unemployment rate.
The government has underestimated net overseas migration since the reopening, what makes you confident population growth will finally slow?
Government forecasts have indeed been underestimating migration flows. Their initial projections for net overseas migration for 2022/23 were less than half the actual outcome of 518k and so we take their 2023/24 forecasts of 375k with a grain of salt. However, December data for international arrivals and departures suggest that population growth is finally beginning to slow. The 12-month sum of net arrivals for non-tourism purposes slowed to 330k, down from a peak of 503k in July.
Much of the decline in the migration intake is due to the departure of international students, who usually leave in November and December after the end of the academic year. However, Covid has led to the student-departure numbers being depressed over recent years. The data for the end of 2023 indicate that this effect is normalising, with twice as many students departing in the final two months of 2023 compared to the same period in 2022. The Federal Government's migration strategy includes measures to encourage student departures, hence, we expect this effect to continue into 2024.
This gives us confidence that population growth will gradually moderate in 2024. However, it is a double-edged sword: slower population growth will help limit the rise in the unemployment rate over 2024 as labour supply eases, but it will also remove a key support to household consumption.