The Big Idea

Wild swings in labor income

Stephen Stanley | February 24, 2023

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.

Household income growth and prospects for consumption appear quite good entering 2023 despite some wild trailing swings in labor income. A substantial downward revision to 2022 second quarter labor income reported late last year added to the sense that the labor market and consumer were gradually losing steam. Robust data for both employment and consumer spending in January assuaged those concerns to a great degree. As it turns out, there was probably not much to worry about in the first place. Extensive upward revisions to payrolls for the second half of last year erased any sense of cooling job growth, and a just-reported revision to third quarter labor income more than offset the downward second quarter adjustment.

Quarterly census of employment and wages

The monthly employment report figures are derived from the results of two surveys. The establishment survey canvasses businesses, gathering their employment levels, average wage payments, hours worked and so on. The BLS surveys about 122,000 businesses and government agencies each month, though not all of them respond every month, to get data and then scale those figures up to estimate the total level of employment and pay in the economy.

With a lag, the Labor Department conducts a quarterly census of all businesses, the Quarterly Census of Employment and Wages (QCEW). All businesses that participate in the unemployment insurance system are required to report their employment levels, and the census mainly captures those reports, as well as two supplemental BLS surveys. The QCEW covers over 95% of total employment in the economy.

Once a year, the BLS reconciles the monthly survey results with the more comprehensive and reliable QCEW figures. This is the annual benchmark revision of payrolls. The most recent one was just released with the January employment report and covered the period from April 2021 through March 2022. The benchmark revision added just over 500,000 jobs over that 12-month period. Moreover, additional information led to further upward revisions to payrolls over the last nine months of 2022 totaling over 250,000.

While the BLS waits and only revises the payroll figures once a year, the BEA, which uses the establishment survey data to help calculate the wage and salary income component of personal income, updates its income tallies on a quarterly basis as soon as the QCEW data are released. Note that a given revision to wage and salary income can stem from an adjustment in the level of employment, a change in wages, or some combination of the two. Thus, there is always some ambiguity in translating these quarterly income revisions to projected changes in employment.

In any case, recently, these quarterly income revisions have exhibited quite a jagged pattern.

A rough start to the year for labor income

On a nominal basis, personal income rose in the first quarter last year. However, the BEA estimated that households incurred a massive increase in tax liabilities partly due to discrete changes like the end of the supplemental child tax credit. As a result, disposable income—income net of taxes—fell in the period. Moreover, real disposable income declined even more sharply, at a 10.6% quarterly annualized pace, in light of the run-up in prices.

The initial estimate of second quarter personal income showed a decent gain. However, that advance was eaten up by the surge in inflation. Then, at the end of November, the BEA revealed that the QCEW data for the second quarter dictated a downward revision to nominal wage and salary income of $50 billion. As a result, real disposable income for the second quarter went from being close to flat to registering an annualized fall of 2.3%.

To make matters worse, economists at the Philadelphia Fed reported that their model suggested that the QCEW results for the period implied that the payroll tally obtained by summing up state employment readings would be revised from a gain of just over 1 million for the three months of the second quarter to only a cumulative 10,000 rise.

When that report was released in December, several market participants drew my attention to the piece and asked my thoughts. At that time, my conclusion was that, though I was not very familiar with their model, I viewed the results as suspicious for a couple of reasons. First, we have national QCEW data, so it seems better to use the national data, which are more accurate, than to sum the state data to create a national proxy. And the significant but not massive downward revision to the national wage and salary income reading of $50 billion was not consistent with such a monumental downward adjustment to job growth (to be fair, the Philadelphia Fed model is designed more to project state employment figures than to derive a national total). Second, the totality of labor market data was clearly not consistent with on balance flat jobs over April, May, and June. Thus, I dismissed the Philly Fed report at the time, though I would suggest that it likely added to a variety of weaker-than-expected data during that time (mainly for consumer spending and core inflation) that fed market participants’ concerns about a looming recession.

All’s well that ends well

Certainly, any concerns about flagging job growth or stagnating labor income growth would have been soothed by the robust January employment report, including the revisions detailed above.

Still, this week brought even better news. As part of the second estimate of fourth quarter GDP released on Thursday, the BEA announced that the QCEW data for the third quarter led to an upward revision to wage and salary income of $115 billion, more than twice as large as the second quarter downward adjustment. As a result, annualized real disposable income growth for the quarter was boosted from a paltry 1.0% to a far more healthy 3.2%. This advance actually outpaced the 2.3% annualized advance in real consumer spending for the period.

Moreover, additional revisions to the fourth quarter took the level of wage and salary income for that period to almost $170 billion above the prior estimate. As a result, real disposable income posted a marked 4.8% annualized increase in the fourth quarter and rose at about a 4% annualized pace in the second half of the year after falling sharply in the first half (versus real consumer spending gains that averaged just under 2%).

These revisions imply that household finances were in significantly better shape through the end of last year than previously thought, as illustrated by the savings rate. The prior estimates of the savings rate for the third and fourth quarters were 2.7% and 2.9%, respectively. The current figures are 3.2% and 3.9%, higher by half a percentage point and a full percentage point, respectively.

The updated figures are more consistent with the Fed’s household balance sheet data, which show that through the end of the third quarter, households had barely begun to draw down their massive pandemic-era windfall. I am eagerly awaiting the fourth quarter update of the Fed data, which are due to be released in two weeks. But I suspect that they will show that the consumer remains flush. I continue to believe that consumers in the aggregate are sitting on an ample cushion that will help to support spending for the time being.

Stephen Stanley
stephen.stanley@santander.us
1 (203) 428-2556

This material is intended only for institutional investors and does not carry all of the independence and disclosure standards of retail debt research reports. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This message, including any attachments or links contained herein, is subject to important disclaimers, conditions, and disclosures regarding Electronic Communications, which you can find at https://portfolio-strategy.apsec.com/sancap-disclaimers-and-disclosures.

Important Disclaimers

Copyright © 2024 Santander US Capital Markets LLC and its affiliates (“SCM”). All rights reserved. SCM is a member of FINRA and SIPC. This material is intended for limited distribution to institutions only and is not publicly available. Any unauthorized use or disclosure is prohibited.

In making this material available, SCM (i) is not providing any advice to the recipient, including, without limitation, any advice as to investment, legal, accounting, tax and financial matters, (ii) is not acting as an advisor or fiduciary in respect of the recipient, (iii) is not making any predictions or projections and (iv) intends that any recipient to which SCM has provided this material is an “institutional investor” (as defined under applicable law and regulation, including FINRA Rule 4512 and that this material will not be disseminated, in whole or part, to any third party by the recipient.

The author of this material is an economist, desk strategist or trader. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM or any of its affiliates may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This material (i) has been prepared for information purposes only and does not constitute a solicitation or an offer to buy or sell any securities, related investments or other financial instruments, (ii) is neither research, a “research report” as commonly understood under the securities laws and regulations promulgated thereunder nor the product of a research department, (iii) or parts thereof may have been obtained from various sources, the reliability of which has not been verified and cannot be guaranteed by SCM, (iv) should not be reproduced or disclosed to any other person, without SCM’s prior consent and (v) is not intended for distribution in any jurisdiction in which its distribution would be prohibited.

In connection with this material, SCM (i) makes no representation or warranties as to the appropriateness or reliance for use in any transaction or as to the permissibility or legality of any financial instrument in any jurisdiction, (ii) believes the information in this material to be reliable, has not independently verified such information and makes no representation, express or implied, with regard to the accuracy or completeness of such information, (iii) accepts no responsibility or liability as to any reliance placed, or investment decision made, on the basis of such information by the recipient and (iv) does not undertake, and disclaims any duty to undertake, to update or to revise the information contained in this material.

Unless otherwise stated, the views, opinions, forecasts, valuations, or estimates contained in this material are those solely of the author, as of the date of publication of this material, and are subject to change without notice. The recipient of this material should make an independent evaluation of this information and make such other investigations as the recipient considers necessary (including obtaining independent financial advice), before transacting in any financial market or instrument discussed in or related to this material.