Friday’s US labour market report was a huge disappointment. This graph explains why.

This is of course Scott Sumner’s Musical Chairs model of the US labour markets. Simply said the model predicts unemployment to rise if demand growth (nominal GDP) slows relative to the growth of labour costs (average hourly earnings).

With monetary conditions tightening (NGDP growth slowing) and minimum wage hikes helping push up wage growth it should hardly be surprising that we are now seeing a softening of US labour market conditions.

It is not dramatic, but there can be little doubt about the trend and it is essentially the same kind of policy mistakes that we saw in the 1930s – too tight monetary policy combined with labour regulation that push up wage growth. Scott of course documents this very well in his new book the Midas Paradox.