Reserve Bank admits it doesn’t know what’s going on with jobs

The Reserve Bank is openly concerned it doesn’t have a handle on what’s happening in the jobs market, or even whether its estimate of full employment — a crucial input to its interest rate considerations — is correct.

In this week’s February Statement of Monetary Policy, the bank devotes three paragraphs to discussing its “key judgment” that “labour market conditions are not expected to ease much further”. It expects “the unemployment rate will increase a little further, before stabilising at 4.25%; this is around one quarter of a percentage point lower than forecast in November”. But is also warns that “the unemployment rate may actually decline a little further in the near term” or “the labour market may ease more than forecast if the expected recovery in private demand does not materialise”.

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Broadly, those comments suggest the bank is more hawkish about interest rates than hitherto, because the labour market is tighter — but increasing risks for inflation (via wage rises) and reducing any need for rate cuts given the very low levels of unemployment.

But in fact the bank also regards its top risk as a critical misreading of the labour market. Its “key risk #1″ is the blunt “We have misjudged how much excess demand there is in the labour market.”

Over six long paragraphs and hundreds of words, the bank admits that it could have “underestimated how much supply-side constraints were contributing to inflation over the past year and how quickly these had now unwound”.

Unmentioned is the corollary to that — that the RBA has overestimated how much demand-side factors have contributed to inflation.

Or, the bank notes, “it could also imply that the modest easing in the labour market over the past year or so had been adequate to bring the labour market into balance — that is, we are currently around estimates of full employment in the economy.”

This is an important statement: unemployment is currently 4.1%; the bank’s estimate of full employment — said to be around 4.5% — could therefore be lower. And that will give the bank a bit more confidence that inflation and wages growth at current levels are not such a concern, and gives the bank some leeway both in relation to how many more rate cuts it delivers, if any, and what it should do in the event of an upturn in costs especially, as we have seen in the US in the last four months of CPI data.

The evidence the bank cites for its theory that full employment is around 4%, not 4.5%, is “the recent decline in the rate of job-switching in the market sector, which suggests there may have been less wage-based competition among firms to retain staff. This decline might indicate less upward pressure on wages than implied by other measures of labour market tightness. This could imply that private sector wages growth, after stabilising in 2024, could begin to moderate again.”

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That was confirmed on Wednesday with a fall in the Wage Price Index for the December quarter to just 0.7% — the lowest quarterly growth since March 2022 — while the annual rate of 3.2% was the lowest since the September quarter of 2022. That outpaced inflation, but represents a dramatic slowing compared to the Bank’s 2024 forecasts.

Private sector wage growth, at 0.7%, was higher than that of the public sector’s 0.6% and annual wage growth in the private sector also outpaced the public sector (which doesn’t fit the narrative from right-wing economists and the business press that there are too many public sector jobs, but who needs evidence for ideological blindness).

It’s definitely the case that the persistent strength of the jobs market has defied historically based expectations of what the RBA’s campaign of rate hikes would do. The central bank’s finest minds aren’t really sure what’s going on. Unlike some others, at least they’re prepared to admit it and reflect on the data.

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