The tight labor market has brought widespread benefits. They are at risk.

All of that could be in jeopardy. The unemployment rate rose to 4.3% in July from 4.1%, almost a percentage point higher than the low of 3.4% early last year. The economy added 114,000 jobs, the slowest pace since late 2020, except for April of this year.

Economists warn that it is too early to call a recession or that the job market is collapsing. Hurricane Beryl, which hit the Gulf of Mexico in early July, may have temporarily put a damper on job growth. More people entering the job market than leaving helped drive up the unemployment rate.

Still, a growing body of data suggests the job market is cooling noticeably. New jobless claims are up. Companies that once faced acute labor shortages are now filling positions more easily, and hiring has slowed sharply. Wage growth has slowed.

Some of that was expected, even welcome. Tight labor markets in 2022 and 2023 reflected a dangerously overheated economy grappling with supply-chain problems and worker shortages, driving the Federal Reserve’s preferred inflation rate to a 40-year high of 7.1% in June 2022. The Fed raised interest rates to rebalance the economy and labor market and bring inflation back to its 2% target.

The question is whether the rebalancing has gone too far and whether those groups that have benefited most from the tightening labour market will see those benefits diminished or whether they will remain for a while longer.

More mothers and black Americans are finding jobs

More women, especially those with young children, have joined the workforce, thanks in part to the opportunities that remote work has opened up. Among black Americans ages 25 to 54, 77.9% were employed in July (seasonally adjusted), up from 75.2% in July 2019.

There is a danger that what has been a lift upward for a wide range of historically disadvantaged groups – a fact celebrated by the Biden administration – could reverse.

Elijah Agyemang has been looking for work for 11 months, and the process has been daunting, he said. Hundreds of job applications have failed to yield a permanent, full-time role. The 24-year-old Brooklyn, N.Y., native completed a software engineering boot camp and has had a few temporary roles and internships in the field. But without a college degree, he can’t make headway with employers, he said.

“In the IT and technology industry, they say I don’t have enough experience or that they are looking for people with a university degree,” he said.

Economist Arthur Okun first popularized the term “high-pressure economy” in the 1970s to describe an economy operating above its long-term sustainable rate of growth, arguing that it could increase workers’ social mobility. In an October 2016 speech, then-Federal Reserve Chair Janet Yellen referenced the idea, considering what might happen if the central bank allowed the labor market and the economy to warm up for a while.

She argues that a high-pressure economy can attract more people into the workforce, enable workers to move into more productive jobs, encourage capital investment and research and development, and lead to the creation of more new businesses.

The downside? A high-pressure economy, “if sustained for too long,” increases the risk of a financial crisis or inflation, said Yellen, now Treasury secretary.

Janet Yellen’s Hypothesis

The Fed soon got a chance to test the hypothesis. In a September 2016 Fed policymaker forecast, Yellen had predicted an unemployment rate of 4.5% in the fourth quarter of 2019. Instead, it fell to 3.6%. And yet inflation came in at just 1.4%, allowing the Fed to keep interest rates low, between 1.5% and 1.75%.

At first, the pandemic seemed to put an end to the labor market under pressure. But as the economy began to recover, fueled by low interest rates and government relief, the job market kicked into high gear. The unemployment rate hit its lowest level in more than half a century in early 2023, and more people entered the workforce.

The labor force participation rate — the share of people working or looking for work — among people aged 25 to 54 reached its highest level in more than two decades last month. In particular, low-wage workers moved into higher-paying jobs. That helped generate wage growth that outpaced inflation and narrowed pay inequality. Economists David Autor, Arindrajit Dube and Annie McGrew found that between the start of the pandemic and mid-2023, about a third of the pay gap between the bottom 10% and the top 10% of workers that had been growing for the previous 40 years had closed.

Developing investments, startups

Meanwhile, business investment in software and research and development as a share of gross domestic product has risen above pre-pandemic trends, notes Oxford Economics economist Michael Pearce. The number of new businesses has also increased. Applications for “high-propensity” businesses — those likely to hire workers — were 26% higher in the second quarter than in the fourth quarter of 2019, according to Commerce Department data.

Productivity — how much a worker produces in an hour — is starting to improve, rising 2.7% in the second quarter from a year earlier, well above the 1.4% annual rate over the past 15 years, the Labor Department said. If it holds, that would allow the economy to grow faster and wages to rise more without inflation.

“We are seeing the fruits of this high-pressure economy,” Pearce said.

The Fed didn’t necessarily want the economy to be under so much pressure. But now that inflation is heading toward the Fed’s 2% goal, it doesn’t want the benefits of a highly stressed economy to drain away with the inflationary floodwaters.

A recession can do that. Downturns have historically been hardest on the young, the less educated and the poor. Prolonged spells of unemployment can erode skills, making it harder to get back to work. Startups can also struggle to stay afloat, notes University of Maryland economist John Haltiwanger.

The new momentum the US economy has gained from the pandemic was completely unexpected. Now, it’s in danger of disappearing.

Lauren Weber assisted in preparing this article.

Write to Justin Lahart at [email protected]