Analysts at Deutsche Bank Research, including Matthew Luzzetti and Brett Ryan, say a typically reliable relationship between U.S. economic expansion and labor-market gains has broken down in recent years.
In a research note, the team recalled that between 2002 and 2019 - the period prior to the COVID-19 pandemic - shifts in U.S. hiring were "significantly positively correlated" with movements in economic activity. Over that span the correlation measured 84%.
That close link has weakened since the pandemic, the analysts wrote, a development they described as "understandable" given the extraordinary shocks of the health crisis. Still, Deutsche Bank highlighted that "the persistence of this divergence over the past two years is notable."
"Even as economic growth has strengthened and remained generally solid, hiring trends have stayed weak," they added, stressing the unusual nature of the current backdrop.
The divergence has had meaningful policy implications. Deutsche Bank noted that the Federal Reserve cut interest rates multiple times last year in attempts to shore up a faltering labor market, even while economic growth stayed solid and inflation remained above the Fed’s 2% target.
Facing these dynamics, the Fed elected to hold its policy rate last week in a range of 3.5% to 3.75%. The bank is not expected to change monetary policy again until later in the year, according to the note.
Deutsche Bank also tied the hiring-growth gap to public sentiment. Weak hiring has helped produce a gloomy view of the broader economy among households, the analysts said, and they singled out the eventual resolution of the divergence as a key factor for both the Fed outlook and the midterm election outcome.
"We, therefore, see the potential resolution of this divergence as a critical determinant of the Fed outlook and possibly the midterm election outcome," the analysts wrote.
The note set out two conditional scenarios. If hiring re-aligns with growth, the labor market would strengthen and the Fed would be unlikely to cut rates until inflation clearly moves back down to 2%. In that case, improving household sentiment could be favorable for Republicans ahead of the November midterm elections.
Conversely, if growth slows to match weak hiring, the labor market would remain soft. Under that scenario, the analysts argued the Fed could move to cut rates again to support jobs, while household sentiment would likely stay depressed - an outcome they suggested could be more supportive for Democrats in the midterms.
Deutsche Bank’s analysis underscores the centrality of labor-market dynamics to monetary policy and political forecasting, while noting that the recent persistence of the hiring-growth split is an unusual feature of the post-pandemic recovery.