Three Data items today:
#1: Some fresh data from the NY Fed’s Survey of Consumer Expectations illuminates two important issues around US labor markets: how quickly they can return to “normal” and what employers have to offer to get the people they want.
This chart shows the percent of survey takers who looked for a job in the last 4 weeks back to March 2014 and broken out by whether they have a college degree or not. The most recent readings noted in the highlight box are slightly higher than the prior quarter, something the NY Fed mentioned presumably because it shows greater interest in finding/switching jobs. However, there’s none of the surge one would expect to see with job openings so high (as last week’s JOLTS report showed) or under/unemployment still well above just 18 months ago.
The other chart that caught our eye: survey takers’ “reservation wage”, or how much money it would take to have them accept a new position. As with the prior dataset, respondents are both employed and unemployed. The college-educated cohort’s “reservation wage” (red line) is up modestly in the past year. But look at the climb in non-college educated workers’ expectations: up 26 percent in the last year, to just over $61,000/year. Nothing in the prior 8 years of survey responses comes close to that jump.
Takeaway: we have been getting questions about potential wage inflation, and these 2 charts show there’s something to this concern. Sources as varied as the Fed Beige Book and the New York Times Metro section have mentioned that many employers are struggling to find workers, even with unemployment still well above pre-pandemic levels. Chart 1 shows why: potential hires aren’t looking as much as you’d think. The results of this shortage are appearing in Chart 2, especially among non-college educated workers. They see the current environment and are rationally asking for higher pay. How much this eventually shifts price inflation remains to be seen, but one precondition for higher prices – consumers’ ability to pay them – is increasingly visible.
#2: One can make a case for the German 10-year bund being the world’s true “risk free rate”, making a comparison of its yield to US 10-year Treasuries’ payouts a useful exercise. One sound bite to support the bund’s no-risk status: Germany’s budget deficit last year was €140 bn, or 4.2 percent of GDP, while the US ran a $3 tn budget deficit, or 15 percent of GDP. Also worth noting: German law enshrines a “zero deficit” mandate for its national government, only to be disregarded in times of crisis like the Pandemic Recession.
The chart below shows the difference between US 10-year Treasuries and 10-year bunds (in black) and Treasury yields (in red) back to 2000. The black line does what you’d expect. From 2000 – 2014, the difference between the 2 was slight – a point or less. Then, with faster growth and larger deficits in the US from 2014 onwards, combined with slower European growth and negative ECB interest rate policy, Treasuries began to yield more. The peak was in 2018, at a 3-point differential (Treasuries > bunds).
The left side of this graph – 2016 to the present – is the important bit for thinking about where Treasuries can go from here. Note that at yield differential levels above 2 points (Treasuries yield 2 points or more than bunds, 2017 – 2020) Treasury yields don’t really rise very much. From 2017 to 2020 they did rise by 50 basis points (2.5 pct to 3.0 pct), but that only got them to 2013 levels and in what we now know was a very hot US economy.
Takeaway: Treasuries don’t price in a vacuum, German rates are still negative, and the current spread between the two is close to that 2-point differential (1.84 points today) where US yields stall out. This isn’t to say that Treasury yields will stagnate forever; we still see them rising over the balance of 2021. But it does say that global reflation is a necessary precondition for that move.
#3: Finally, a quick visit with 3-month/10-year Treasury spreads, one proxy for capital markets’ expectations of future US economic growth. The chart below goes back to 1982 and shows that the Treasury yield curve always steepens during recessions (grey bars) and flattens as the domestic economy hits its stride (white areas). This is also the graph that Fed-haters point to when they say, “the Fed causes every recession”, because 3-month paper is basically Fed Funds. When the central bank tightens excessively (i.e., above 10-year yields) recessions always follow. Always.
Takeaway: even with the recent decline in 10-year Treasury yields, we still have a 1.5-point differential to 3-month/Fed Funds and that’s still consistent with decent future economic growth. We are at similar levels as the mid 1980s, mid-late 1990s, and 2016 – 2018 and all those were all good periods for the US economy. Yes, every other recovery back to 1980 has come with a 3-point difference between 3-months and 10-years. Maybe we will get there once the global economy finds a higher gear (as outlined in #2). But for now this is what we have and it should be good enough.