Tone Deaf

AI Door Dash?

Outplacement firm Challenger, Gray & Christmas released February layoff data this past week. The conclusion: companies are still letting go of people at a high rate, similar to the start of 2023. While the tech industry remains the largest job cutter, firings are down by more than half, perhaps cushioned by their expanding AI projects. Unfortunately, job reductions are spreading across other industries. Financial firms announced almost as many layoffs as tech companies, a 50% increase from 2023. Also troubling are the large jumps in Industrial Goods, Energy, and Education companies that have started the year with 10x the amount of layoffs relative to last year. Economically, this poses a problem as decreased labor demand tends to result in slowing wage growth, which means your paycheck may not go as far in our current inflationary environment.

The reasoning behind these job cuts is equally concerning. Almost 10% of 2024 job cuts were categorized as resulting from a “technological update.” For context, the number of “technological update” related job cuts in 2024 alone is greater than the past 17 years combined. This could mark the beginning of AI replacing jobs in a material way.

Hire Slow, Fire Fast

New data points to a change in how employers view the job applicant market. The NFIB Jobs Report released last week showed the lowest number of small businesses since the beginning of the pandemic who feel hiring qualified workers is their biggest concern. Over the past few years, small businesses have consistently listed finding talent as their number one problem because so many people chose not to return to the workforce. That fear of not being able to replace workers forced businesses to retain their existing employees. Now that employers are more comfortable with the available labor pool from which to hire, they will be quicker to fire.

The January NFIB survey is already showing weakness in sales expectations, hitting their lowest point since April 2023. If sales weaken further, the next time costs need to be cut, management will look to cut staff for the first time in years. Small businesses are the major driver of employment across the U.S. economy and secure employees translate to solid spending. If consumption continues to weaken, it could fuel a vicious cycle where companies start firing employees, which will lower consumer spending and further drop sales. That is a recipe for recession.

Read Between The Lines

Friday’s employment report contained two major surveys, the establishment survey, which showed a positive outlook, and the household survey, which did not. Most people pay more attention to the establishment survey, but the household survey is actually a better indicator when the economy is slowing down as it collects data directly from individuals, which eliminates the problem of double counting multiple job holders.

The household survey posted a 4.8% annual growth of employment 2 years ago, and it is now only 0.4%, a level lower than the average employment growth rate at the outset of the last two recessions. Meanwhile, analysts and investors are celebrating, believing this report reduces the risk of labor demand pushing inflation higher, opening the door for the Fed to cut rates in July. The problem is that shrinking employment coupled with slowing wage gains will translate to lower spending, and even more unemployment. With investors ignoring this data, it does not rule out further asset price gains, but this will not end well.

What To Look for This Week

1. The February Consumer Price Index (CPI) inflation report coming out on Tuesday is critical because it could unify a currently divided Federal Reserve. Core inflation data has not yet seen a drop toward the 2% target, holding at a 4% annual rate for the last 4 months. The expectation for February core CPI is 3.7%, so a number above expectations would make it a fifth consecutive reading near 4%. If that happens, FOMC voters will question whether inflation is on a clear path to 2% and likely align on pushing off rate cuts. Because equity investors firmly expect three rate cuts this year, a higher CPI could potentially tank stocks. Prepare for volatile markets Tuesday.

2. The U.S. 10-year Treasury bond auction follows CPI on Tuesday at noon EST. Bond prices have risen recently as global investors have been buying in anticipation of high demand. This expectation is based on the hopes of a large purchase from Japanese Institutions who already hold $1 Trillion in US Treasuries. The Japanese have been hesitant to add to their positions due to a large gap in Japan and US interest rates. Given that Japan is expected to raise rates and the US is expected to start to cut rates, investors expect the rate differential to decrease, bringing the Japanese back to the table. If the US core CPI, released at 8:30 EST Tuesday, is above the 3.7% expectations, the Japanese may continue to hold off purchasing US bonds. Worries of that could spook global investors leading to a fast selloff and deflation of bond prices.

3. February Retail Sales is important to watch this Thursday because the last report showed a very sharp decline. Based on what we learned from the NFIB report, workers are no longer safe from being fired, so if sales do not bounce back, workers are vulnerable to losing jobs, a development that few are expecting. Investors may take weaker retail sales numbers to mean the risk of recession is rising.