Imagine headlines flashing news of 20,000 jobs lost each month from US payrolls. Consumer and investor sentiment would crater and the pressure on the Federal Reserve to keep cutting interest rates would be intense. Yet, that’s likely the current state of the labor market, Chair Jerome Powell said Wednesday, while raising the bar on further policy easing.
Powell was accounting for data revisions next year, which he expects will shave 60,000 positions, on average, from the monthly payrolls numbers we’ve had since April. His prognosis was aggressive, but it painted a wholly familiar picture of a moribund labor market where the official data show that goods-producing sectors have cut 72,000 jobs since April and services employment grew thanks only to healthcare and education.
How then to justify the Fed’s expectation for unemployment at 4.4% by the end of 2026, no different than where it was this September? Policymakers were bullish on economic growth supporting employment, driven by resilient consumption, the One Big Beautiful Bill Act and investments in artificial intelligence. But the causality goes the other way too, where worsening employment puts downward pressure on consumption, which accounts for two-thirds of the economy.
The negative momentum apparent in the labor market and the promise of productivity-boosting, and potentially job-destroying, AI will make the Fed’s unemployment outlook challenging to achieve next year, and call into question its growth optimism.
The recent news from cyclical industries such as manufacturing and housing has been bad. The Institute for Supply Management’s manufacturing employment component contracted for the tenth straight month in November. The data comes at a time when companies are putting together their budgets for the following year, so it has some predictive value. In the past 30 years, a November reading around or below last month’s level has typically been followed by declining manufacturing employment in the first quarter.
Home Depot Inc., the leading home improvement company, said at its investor day this week that it expects stagnant revenue growth and slightly faster earnings growth in 2026. It doesn’t take a math whiz to realize that doesn’t leave room for headcount additions. Home Depot believes it’s still taking market share, so the industry overall should see flat employment, at best, starting 2026.
Toll Brothers Inc., the largest high-end homebuilder in the US, expects to deliver fewer homes next year and its estimate disappointed analysts. Toll Brothers is noteworthy because it’s positioned at the premium end of the industry where sales have been most resilient. The company said its order backlog shrank by over 20% in the past year, the latest sign that residential construction and employment overall are set to decline.
The November ADP National Employment Report showed private employers in both goods- and services-producing industries shedding roles, with small businesses with fewer than 50 employees cutting 120,000 jobs, the largest one-month decline since May 2020.
White collar employment is in a particularly curious place. Employment here has been stagnant for the past two-and-a-half years, at first to correct for over-hiring during the recovery from the pandemic and more recently due to the impact of AI. “You can’t miss the big announcements of layoffs, and also companies saying that they’re not going to hire anybody for a long time,” Powell said when asked about AI on Wednesday, following the Fed’s decision to lower its target for the federal funds rate by a quarter of a percentage point. “At the same time, people are not filing for unemployment insurance.”
Whether that puzzle resolves itself with more layoffs and jobless claims or disappointment in AI, the fallout will damage sentiment. We know that the AI investment boom itself isn’t generating much employment, beyond what’s required for data center construction. When it comes to fiscal stimulus, a lot of employers should already have accounted for the boost from tax legislation passed five months back. That leaves consumption, which has to track employment on some level. Ultimately, it’s hard to see how rosy economic growth forecasts materialize without a stronger labor market than we currently have.
Unfortunately, the drivers for a recovery in employment growth are missing, and absent those, unemployment should continue to rise in fits and starts as it has been doing since the spring of 2023. As JPMorgan Chase & Co. Chief Financial Officer Marianne Lake said at an event this month, “Our outlook for next year would be for unemployment to grind a little higher, and therefore, that to be reflected in consumption.”
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