U.S. job growth has been surprisingly sturdy this year despite the Federal Reserve’s sharp interest rate hikes and stubbornly high inflation.

One big reason? The government.

The public sector, especially state and local governments, has added 379,000 jobs in the first half of 2023, comprising almost one-quarter of the nation’s nearly 1.7 million payroll gains. That’s an outsize share; federal, state and local governments make up just 14.5% of total employment.

The development marks a turnabout from last year when states and localities struggled to compete with a private sector that offered much bigger pay increases and widespread remote-work options in response to severe labor shortages.

“There’s a catch-up effect,” says Julia Pollack, chief economist of ZipRecruiter, the job search site.

“In what has generally been a strong budget climate, many states have taken steps to address these longstanding challenges through pay raises, hiring bonuses and other strategies,” says Melissa Maynard, senior officer of state fiscal health for The Pew Charitable Trusts.

Despite the improvement, government hiring can be volatile from month to month and subject to quirky seasonal adjustments that may raise questions about how closely the Labor Department's survey reflects actual employment trends. In the July jobs report due Friday, for example, economists surveyed by Reuters estimate public-sector job gains slowed to just 9,000 while private employers added 175,000 jobs.

How much have wages increased?

Total compensation for state and local government employees − which includes pay as well as health and other benefits − grew 4.9% on average in the April-June quarter while wages and salaries increased 4.7%, Labor Department data shows. Both figures topped private-sector gains and reversed the year-ago dynamic, which saw government pay and benefits increasing just 3.4%, compared with 5.5% for private workers.

The public sector’s job gains over the first six months of 2023 already soundly top the 275,000 positions added all of last year. Overall, the public sector is still 161,000 jobs shy of its pre-pandemic peak, while the private sector recouped all jobs lost in the health crisis in April 2022.

Western states with strong population growth generally have recovered all their lost public-sector jobs, while Northeastern states with slowly growing or shrinking populations are still clambering back to their pre-COVID payrolls, says economist Emily Mandel of Moody’s Analytics.

Has job growth slowed?

The surge in government hiring is partly masking what otherwise would be a more pronounced slowdown in job creation.

Employers added a record average of 606,000 jobs a month in 2021 and 399,000 last year amid the recovery from the COVID-19 recession. This year, monthly job growth has averaged 278,000 – a big downshift but still a booming pace by historical standards.

But if not for government hiring, job growth would average a solid but far less robust 215,000. In June, the private sector added just 149,000 jobs.

Because many economists view private-sector employment as a better reflection of the economy’s health, the hiring slowdown could mean the Fed doesn’t have to raise interest rates as much to cool the labor market and inflation, Pollak and Mandel say.

Here’s why public-sector hiring is picking up.:

Fewer resignations and retirements

Hundreds of thousands of government workers were furloughed early in the pandemic, and many haven’t returned because they retired early or quit to work at more lucrative and flexible private-sector jobs. But the exodus has slowed as the pandemic has faded.

“Local government labor outflows, through quits and retirements, which had spiked over the past three years, have begun to slow down,” says Joshua Franzel, senior executive research director for the National League of Cities, an advocacy group for cities and towns.

Lags in public-sector hiring and wage growth

State and local governments take much longer than private companies to approve funding for new positions, Mandel says. They also are slow to approve pay increases, Pollak says. Local school teachers’ salaries, she adds, are often the result of drawn-out negotiations with unions.

But now that funding has been approved, governments are accelerating hiring.

Yet many local government job openings are still tough to fill, Pollak says. She cited a dire shortage of science teachers rooted in policies that prevent school districts from paying them higher salaries than other teachers even though they may have more skills and are in greater demand.

Strong state and local finances

The healthy U.S. economy has meant higher tax revenue and fees for state and local governments, adding to the $350 billion in federal stimulus payments they received in the early days of the pandemic, Mandel says.

Though the public sector had a strong balance sheet last year, many governments have amassed more money and are in even better financial shape this year, she says.

Private-sector hiring slows

Private companies have pulled back hiring as the economy has slowed, translating into less competition for workers among governments, Mandel says.

Supply of workers increases

During the pandemic, millions of Americans left the workforce to care for children or for health or other reasons. But many have come streaming back. The share of adults working or looking for jobs was at 62.6% in June, below the 63.3% pre-pandemic mark but above the 62.2% level a year earlier.

More flexible work setups

State and local governments traditionally have been less willing to let employees work from home and keep flexible hours. But that’s gradually changing, Mandel and Pollak say.

Franzel, of the National League of Cities, says many local governments are adopting policies that allow flexible work practices.

Some rural communities that have struggled to find workers are attracting job candidates by offering work-from-home arrangements, says Neil Sheridan, president of the National Association of Towns and Townships, an advocacy group for local governments.

How much to retire?How much money do you need to retire? Most Americans calculate $1.8 million, survey says.

The outlook

If the economy and job market slow as expected this year and in 2024, Pollak says, “public-sector hiring will continue to be an area of strength,” which will help prop up overall job growth

Mandel, however, says a sputtering economy probably would mean softer revenue and hiring for state and local governments.

“As the fiscal dynamics shift, a key question will be whether recent pay raises are sustainable,” Pew’s Maynard says, noting that state tax revenue has started to decline.