April’s solid job growth and historically low 3.9 percent unemployment rate are positive signs for the economy, but sluggish productivity growth and tepid wage growth raise red flags.

The economy added 164,000 jobs last month, and unemployment fell more than expected, but wage growth was just 0.1 percent, half of what was expected.

Economists said the report was mostly positive. But along with other data this week, it highlights the divide between a tightening labor market and slow productivity growth, running at a sluggish pace of 0.7 percent in the first quarter.

While the market sees slower wage growth as a potential brake on Fed rate hiking, economists say the Fed will look at the strong hiring and the drop in the unemployment rate as a green light to continue raising interest rates.

The trend of low productivity growth suggests businesses are not yet pumping money into the type of spending that will sustain higher economic growth and future earnings growth, potentially causing longer term problems for the economy if the Fed keeps hiking rates.

“Main Street is doing okay without productivity picking up. Wages are climbing. Job creation is wonderful. Confidence is high,” said James Paulsen, chief investment strategist at Leuthold Group. “But for Wall Street, 3.9 percent unemployment, and if you’re still going to create 100,000 jobs, you’re still going to pressure costs, wages and inflation, and you’re still going to have the Fed raising rates. The problem, without productivity is the lack of growth is problematic for Wall Street and for equities.”

Economists had expected strong job growth of 192,000 and a drop in unemployment to 4 percent. Despite the lower payroll number, with prior month revisions, the three month average for job growth was 208,000.

The last time unemployment was this low was in the year 2000, when companies ramped up hiring during the tech boom. Prior to that, unemployment around 3 percent was last seen in the 1960s.

Stock were trading lower, while Treasury yields fell, but the dollar remained stronger. Yields move opposite price.

Economists expect wage growth to pick up, but traders say the bond market viewed the slower wage growth as a sign the Fed will not have to speed up its rate hiking. The 10-year Treasury yield slipped to 2.92 percent.

Paulsen said the economy is now the “flip side” of where it was earlier in the recovery, when it was “good for Wall Street but awful for Main Street.”

Michael Gapen, chief U.S. economist at Barclays, was not surprised by the lower than expected unemployment rate and said it was due, in part, to a decline in the number of people participating in the labor market. Another 410,000 people left the workforce, bringing the total to 95.74 million.

“The bad news is labor reports like this signal that the supply side of the economy is not picking up,” he said. “If you need to increase output by adding more people that’s a sign the supply side remains stuck and potential growth remains low. I’m looking at these labor market reports as now what used to be good news, and Goldilocks for now is more bad news than good news.”

Joseph LaVorgna, chief economist Americas at Natixis, said the slight dip in the participation rate is something to watch but it’s too soon to rule out a possible bump in productivity on the horizon.

“We need some time to see how the tax cut plays out. There’s a possibility the tax cuts give us a capital deepening, and over time you might get some productivity growth. At the same time, it’s also possible the tight labor market might engender firms to upgrade their [workers’] skill set in a way that would not happen if there was more labor available,” he said.

Source: Investment Cnbc
Historically low unemployment looks great, but April's jobs report carries a warning