Markit Credit Research

06/08/2010

Markit Credit Wrap: The Week in Perspective

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04/02/2010

18/02/2010

04/03/2010

18/03/2010

01/04/2010

15/04/2010

29/04/2010

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10/06/2010

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05/08/2010
Markit iTraxx Europe Markit CDX IG

Source: Markit
Any economics undergraduate will know (or should do) that the labour market is a lagging economic indicator.
Unemployment tends to peak several quarters after recessions end; companies need firm evidence that demand is
sufficient to justify renewed hiring. But the attention given to the US non-farm payrolls report on the first Friday of each
month reflects that it is still the most important gauge of economic health, especially for a consumer-driven economy
like the US.

Today's report was as anticipated as ever. Labour market data earlier this week painted a mixed picture of
employment. On Wednesday, the employment component of the ISM non-manufacturing index was up 1.2 to 50.9, its
highest level since December 2007. A higher than expected ADP private sector employment report gave further cause
for optimism. But this was dampened the following day by initial jobless claims that exceeded consensus estimates.
The figure of 479,000, an increase of 19,000, was disappointing and indicated that the US economy is some way from
sustainably creating jobs.

So there was a considerable degree of uncertainty ahead of today's NFP. The fact that census-related government
hiring has distorted the headline figure added to the confusion. In the event the number of private sector jobs created -
the crucial figure - came in at 71,000 (the headline figure was a reduction of 131,000). This was well below
expectations of about 100,000. To make matters worse, the number of jobs lost in June was revised from 125,000 to
221,000, with only 31,000 private sector jobs created. The unemployment rate in July was 9.5%, slightly better than
the 9.6% consensus estimate. But this glimmer of good news was due to people leaving the labour force, a worrying
trend that has been evident in recent months.
Markit Credit Research

In some respects it is unsurprising that unemployment has stayed stubbornly high, despite the monetary and fiscal
stimuli injected by the government. Research by Reinhart and Rogoff (2009) shows that labour market fallouts from a
financial crisis recession are more severe than from a normal downturn. On average, they show that unemployment
rises by 7% trough-to-peak over a 5-year period. In the US, unemployment peaked at 10.6% in January 2010, an
increase of over 6%. It then subsequently fell to 9.3% by May but has started to creep in recent months. Given that it is
only just over three years since the beginning of the unemployment cycle, Reinhart and Rogoff's research suggests
that it is quite possible that the unemployment rate could rise further in the coming years.

The reaction of the credit markets to the NFP was predictably negative. After showing some resilience in the first
couple of hours following the release - some were highlighting the slight increases in average hours and wages - risky
assets capitulated. The Markit iTraxx Europe closed 2bp wider at 103.5bp, marginally tighter than the Markit CDX IG.
Financials and sovereigns were both wider as risk aversion increased.

The big question now is what the US authorities will do to address the flagging economy. The Federal Reserve is due
to meet next Tuesday and there is widespread speculation that it will reinvest proceeds from maturing mortgage bonds
into US Treasuries. More dovish language from Bernanke is another possibility, as is the less likely option of more
aggressive quantitative easing. The actions - and words - of the Fed will be crucial in determining spread direction in
the coming weeks.

Gavan Nolan
Credit Analyst
Markit
Tel: +44 20 7260 2232
Email: gavan.nolan@markit.com

For further information, please visit www.markit.com

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