Fed Decision May Hinge on Which Holds Sway: Data or Outlook

El-Erian: Jobs Report Creates Uncertain, Tentative Fed
  • Market turmoil could delay policy makers despite job growth
  • Dutta: Numbers are saying `Go,' but markets are saying `No'

The Federal Reserve’s decision on whether to raise interest rates this month is coming down to a simple question: Are policy makers data dependent or outlook dependent?

The flow of economic statistics from the government and elsewhere in the run-up the Fed’s Sept. 16-17 meeting, punctuated by Friday’s labor report, mostly suggests that the first rate increase in nine years would be justified. Automobile sales have been strong, the housing market is buoyant and joblessness has fallen to a level that most policy makers reckon is equivalent to full employment, even though inflation remains below the Fed’s target.

The outlook is murkier, clouded by turmoil in financial markets, a rising dollar and a shaky global economy, thanks especially to China. That argues for caution in ending an unprecedented era of near-zero interest rates.

“You can’t look at the labor market anymore to justify delay,” said Neil Dutta, head of U.S. economics at Renaissance Macro Research in New York. “The labor market is giving a green light. The only way they can justify not going is based on inflation or the global economy and the risk of the global economy to the U.S. The data is saying ‘Go.’ The markets are saying ‘No.’”

Employers added 173,000 workers in August and the U.S. jobless rate dropped to 5.1 percent, the lowest since April 2008. The gain in payrolls, while less than forecast, followed advances in June and July that were stronger than previously reported, Labor Department data showed Friday. Average hourly earnings climbed more than forecast and workers put in a longer workweek.

Most Fed policy makers calculated in June that a jobless rate of 5 percent to 5.2 percent was the equivalent of full employment, according to projections released after that month’s meeting of the policy-setting Federal Open Market Committee. Officials will come up with new estimates at this month’s gathering and some private economists are predicting they could be lowered then. 

The uncertainty over what the Fed will do was reflected in trading in the federal-funds futures market in Chicago. Investors still put the probability of a move at well below 50 percent.

Yuan Devaluation

The odds are also lower than they were before China devalued the yuan on Aug. 11. The surprise move by the world’s No. 2 economy roiled markets worldwide, sending global stocks to their biggest monthly loss in three years and commodities to a 16-year low.

Richmond Fed President Jeffrey Lacker, who’s historically been more inclined toward tighter policy than most of his colleagues, said after delivering a speech Friday that the labor data represented a “good report” that doesn’t change the picture for monetary policy. He said in the speech that it’s time for the Fed to end its era of zero interest rates.

The jobs data capped a string of statistics suggesting that the U.S. economy was continuing to plow ahead. Sales of cars and light trucks rose to a seasonally-adjusted annual rate of 17.7 million in August, their highest level since 2005, according to Ward’s Automotive Group. Purchases of previously owned homes increased in July for a third straight month to reach the highest level since February 2007, figures from the National Association of Realtors showed.

“The U.S. economic data has remained resilient despite the nervous Nellies on Wall Street,” Scott Anderson, chief economist at Bank of the West in San Francisco, said in a note after the payrolls report. “Even beyond jobs, the economy appears to be hanging in there quite well.”

The strength of the economy and the jobs market though has yet to lift inflation up to the Fed’s 2 percent target. Prices in the U.S. rose 0.3 percent in the 12 months through July, measured by the Fed’s preferred gauge. Inflation has lingered below the Fed’s 2 percent target for more than three years.

Fed officials have argued that inflation has been depressed recently by a stronger dollar and falling oil prices and will begin to rise as the impact of those influences wane.

‘Good Reason’

“Given the apparent stability of inflation expectations, there is good reason to believe that inflation will move higher as the forces holding” it down dissipate, Fed Vice Chairman Stanley Fischer said on Aug. 29 at the Kansas City Fed’s annual retreat in Jackson Hole, Wyoming.

Boston Fed President Eric Rosengren said his own outlook on inflation is dependent on whether he believes the economy will continue to expand faster than the long-term potential for growth. That, in turn, is threatened by recent turmoil in stock markets and falling commodity prices, which are “consistent with a weaker global economy,” he said.

Such developments “might suggest a downward revision in the forecast that is large enough to raise concerns about whether further tightening of labor markets is likely,” he told the Forecasters Club of New York on Sept. 1.

A drop in manufacturing industry employment last month raises questions about whether events overseas are starting to weigh more on the U.S. economy, said Paul Mortimer-Lee, chief economist for North America at BNP Paribas in New York.

“The Fed won’t be sure, and they’ll want to know: are these weaker payrolls the start of a trend, will it build, or will it come back again?” he said. “If you’re not sure, as a central banker, you do nothing, you wait and see.”

Payrolls at U.S. factories slumped by 17,000 last month, the most since July 2013. Producers of machinery, metals, food, plastics and rubber pared jobs, while automakers boosted employment.

In the end, the decision on whether to raise rates this month comes down to “a judgment call,” said Roberto Perli, a partner at Cornerstone Macro LLC in Washington and a former Fed board economist.

“If you look purely at the U.S. economy, you should move,” he said. “If you look at the global outlook, it is considerably more uncertain.”

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