Last month’s slim job growth seemed to bolster the theory that the economy is slowing down—but with structural changes to the workforce taking place over the last several years, it’s natural for job growth to start to slow even as the economy continues to expand.

BY: JIM GLASSMAN, HEAD ECONOMIST, COMMERCIAL BANKINGJUN 12, 2019

Job creation fell sharply in May. The economy added just 75,000 jobs for the month, far short of the 200,000 monthly job gains that have come to seem typical over the past decade. While a single month’s report could always be a statistical anomaly, the cyclical forces that have driven above-trend demand for labor over the past decade are fading.

As the labor market draws tighter, structural demographic forces are likely to act as a brake on job growth. The economy’s sustainable rate of job creation may be significantly slower than what we have grown accustomed to, but a hiring slowdown doesn’t necessarily signal a loss of economic momentum.

Structural Forces Replace Cyclical Ones

The workforce’s growth rate has slowed dramatically since the 2008 recession. The outsized baby-boom generation has reached retirement age, and the growth of the working population has slowed. In the 1990s and early 2000s, nearly 200,000 potential new workers were entering the job market every month; today, that number is only about 65,000.

Until recently, this demographic shift has been masked by cyclical forces. The recession created a tremendous amount of slack in the labor market, allowing the economy to defy demographics and maintain an above-trend pace of job creation for almost a full decade. Hidden pockets of unemployment and underemployment have been slow to evaporate, but almost all of the recession’s discouraged workforce dropouts have now returned to the job market and the number of involuntary part-time workers has dropped to a level consistent with past periods of full employment.

With headline unemployment nearing a 50-year low and 7.5 million job openings currently going unfilled, it’s possible that the labor market has finally drawn tight. As the last of the recession’s slack disappears, job growth will likely be limited by demographic forces. The rate of job creation should move toward a sustainable average of 50,000 to 75,000 new jobs monthly.

Alternate Futures

There’s no certainty that May’s jobs report marks the beginning of an inevitable hiring slowdown. Monthly job creation reports are inherently volatile; over the past decade, monthly hiring has fallen below 75,000 on seven occasions. On those occasions, weak hiring was immediately followed by a strong rebound, with subsequent months bringing a return to six-digit job growth. The same pattern could repeat this summer.

It’s difficult to measure the amount of slack remaining in the labor market. For example, a small rise in the labor force participation rate could expand the potential workforce and enable hiring to resume its previous rate for some time. Immigration reform could also enlarge the workforce; the addition of foreign-born workers already in the prime of their careers would lift the economy’s sustainable rate of job creation. However, if nothing changes, employment growth will likely moderate at the top of the business cycle.

The Implications of Slow Hiring

When job creation does eventually slow to a sustainable pace, it won’t necessarily be a signal of economic distress. Paradoxically, it could actually benefit workers—a tight job market should lift wages as the demand for labor outpaces the available supply. If the hiring slowdown isn’t accompanied by a spike in layoffs, it will likely be a sign that the economy is leveling off to a sustainable growth rate through the top of the business cycle.

However, without a surge in worker productivity, a slowly expanding workforce likely will constrain GDP growth. Aggregate production is limited by the supply of labor, and as the labor market tightens, expanding businesses will begin to face staffing challenges. Throughout the recovery, consumer demand has guided most decisions about growth—if the customers were there, businesses had few reasons not to add shifts and open new locations. But a lack of available workers could act as a brake on growth.

This adjustment to demographic reality shouldn’t damage the economy—full employment could bring about a slower, more sustainable growth rate, but that doesn’t mean businesses are in distress. When the economy is operating at its full potential, slower aggregate growth should be accompanied by prosperity spread throughout the workforce.