Axios Macro

The traditional story of how the Fed slows the economy to bring down inflation goes like this: It tightens money to curb demand in sectors of the economy sensitive to rates, causing them to contract.

• But this time around, something weird is happening. The sectors that traditionally contract when the Fed tightens policy have kept adding workers despite rapid rate hikes.

Why it matters: Labor's resilience in areas that are historically most sensitive to interest rate hikes — accompanied by declining inflationary pressure — suggests the Fed might be able to bring down inflation without widespread layoffs that accompany recessions.

State of play: A consistent feature of recessions is that employment in construction, and durable goods manufacturing, contracts in recessions.

• Those sectors, to a significant degree, are the business cycle. They expand in good times and contract in hard times, while other sectors like health care are more slow-and-steady.
• But there is no sign of dramatic contraction in those sectors, despite aggressive monetary tightening during 2022 that make buying a house, car, or other big-ticket items more expensive.

By the numbers: Construction employment rose 3.1% in 2022, rising in 11 of 12 months. Durable goods manufacturing employment rose 3.3%, rising in all 12 months.

• Neither sector appeared to lose momentum as the year progressed and rate hikes started to bite; instead, they continued to add jobs at a steady clip. The 28,000 construction positions added in December was the highest since May.

The strength in interest-sensitive sectors may reflect backlogs of demand for houses and cars from the supply-constrained period of 2021, argue Justin Bloesch and Mike Konczal of the Roosevelt Institute.

• "With supply still far behind demand, employers have no reason to lay off workers," they wrote recently.
• This may be good news, implying a path where the supply side of the economy continues to heal. That helps bring down inflation pressures without mass layoffs — at least in the sectors usually affected by tighter money.
• "[I]t's possible that all of the labor market cooling happens on the churn and wages side, and almost none on the layoffs side," they added.

Yes, but: The technology sector is one outlier, where big name companies continue to shed tens of thousands of workers.

• Layoffs have been disproportionately tech-related. Still, the information sector is just a sliver (roughly 2%) of overall employment.
• As it stands, there may be a tech recession as some companies adjust to more normal business conditions, after historic demand and hiring early in the pandemic. So far, it's contained and hasn't made a wave in the labor market data.

The bottom line: The labor market has cooled off, but without a significant uptick in layoffs — even in the sectors most impacted by higher rates.

A round of surveys out this morning also undermine the more pessimistic views of where the economy is heading.

Driving the news: The Philadelphia Fed's survey of non-manufacturing businesses in the mid-Atlantic rose in December, with 38% of respondents seeing increases in activity, versus 25% seeing declines.

• The new orders index was the strongest it has been since July.
• Meanwhile, the Richmond Fed's activity indexes — covering the states from South Carolina to Maryland — sent a mixed message, with its manufacturing activity survey ticking down this month but service industry activity improving.

Also out this morning, the S&P Flash PMI data rose to three-month highs for both business output and business activity.

• Those numbers, which both came in at 46.6, remain below 50, indicating contracting business — but slower contraction than in December.

The bottom line: Taken together, these surveys point to an economy that is experiencing some bumps, but is decidedly not in free fall.