Why You Can't Trust Friday's Jobs Report, And What It Means For The S&P 500

The monthly jobs reports are not accurate and a recession may be coming soon.

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May 14, 2023 • 4 min read

There are increasing signs that the monthly job reports are inaccurate and that the labor markets is weaker than they appear. This suggests that a U.S. recession is closer than most people think. Lower interest rates, a weaker currency and worsening earnings prospects have mixed to negative implications for the S&P 500. Volatility can be a great investment!

Tax receipts are the proof that you can't trust Friday's jobs report.

Wall Street is expecting Friday's employment report to show that the U.S. added 293,000 new jobs in August, while the unemployment rate remained steady.

Some economists have also begun to doubt the accuracy of monthly job reports. UBS economist Jonathan Pingle wrote with colleagues that it is now less about forecasting labor markets fundamentals, and more about wargaming the survey’s potential mismeasurement.

The data in Exhibit A are the federal income tax and employment tax withholdings that are reported daily by Treasury. IBD's analysis of Treasury flows shows that the rate of growth of taxes deducted from workers' paychecks is declining sharply. The growth in tax receipts for the 10 weeks ending on Aug. 26 was just 6.7% compared to a year earlier. This is down from about 14% through mid-May.

The slowdown in growth in federal taxes withheld is a stark contrast in comparison to the weekly aggregate payroll data reported in monthly employment reports. Bureau of Labor Statistics figures show that in July, the economy-wide pay increased 9.7% compared to a year earlier -- nearly 45% more than recent growth rates for tax revenues.

The aggregate wage figure is a combination of hourly wages and total hours worked in the economy. This includes hiring in the last year. The comparison of the growth rates between aggregate wage incomes and tax withholdings, however, is not exactly apples to apples. Taxes also cover incentive payments, and not all income is taxed the same.

It's still bad news for the economic situation if tax revenues are declining so dramatically. Tax data suggest that real aggregate labor income has shrunk. The tax data show that wages have grown at least 5% in the past six months and employer payrolls are up by 3.6 million or 2.5%.

The tax data sends roughly the same message to the Labor Department as its household survey. The household survey is used in order to calculate the unemployment rate. The household survey indicates that the number of workers has decreased by 168,000 over the last four months. This is despite the headline job gain of 1,68 million in the jobs report, based on the employer survey.

What is the significance of this divergence in results between household and employer surveys? Pingle found that the gap of 1.85 million jobs between the two surveys, which spanned four months, is the largest data gap since 1948.

The household survey counts the number of workers, while employers count jobs. The household survey does not include the increase in people who hold multiple jobs. The difference is what explains only a small fraction of the divergence. Data shows a rise of only 150,000 people with multiple jobs since January.

In the monthly employment figures, there is a pretty obvious source of error: The estimate of new and dying firms. The Labor Department must guess in the short term how net business creation adds or subtracts to overall job growth.

It is difficult to get this right, especially at a time of economic transition, because the data reflect previous trends. UBS economists point out that the birth-death adjustments has created 926,000 new jobs in private employment. This is 170,000 more jobs than in the same four-month period of 2019.

The July guess that the creation of new businesses added 309,000 jobs seasonally adjusted employment total is unlikely. Remember that the S&P 500 just fell 25% from its record highs. Crypto was also crashing. Inflation was at 9% and the yield on the 10-year Treasury had just reached an 11-year peak.

Pingle highlights seasonal adjustments to payroll gains as a factor that "can keep (job) growth going for nonfundamental reason."

"For the past four months, seasonal adjustment has proven to be more supportive in 2020 than in 2021", boosting net employment additions by 514,000.

When will the government rectify the figures if, as appears to be the case, the Labor Department overstates job gains? Maybe within a year. The Labor Department releases preliminary revisions every August for a year's worth of data up to the previous March. The divergence in data between the strong payroll growth and the softer tax and household survey only started in April or may.

Investors hoped that the S&P 500 would continue its summer rally after Federal Reserve chief Jerome Powell delivered his Jackson Hole address. They hoped to see a rate cut in the middle of the year 2023 and a transition from rate increases to rate reductions.

Powell's speech, in which he signaled that the Fed will tighten its policy for longer, undermined the resilience of the financial markets as well as the economy. "Restoring the price stability will require some time, and we must use our tools to bring supply and demand into better balance."

The 10-year Treasury yield is likely to plunge once it becomes apparent that the job markets are sputtering faster than expected. This will cause the U.S. Dollar Index to reverse its 20-year high. The S&P 500 is unlikely to be re-ignited until the downward momentum of the economy has abated and earnings prospects improve.

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