The Global Markets Weekly – 10/7/16

Posted October 11, 2016 by rvillareal

Fed Still on Track for December Move

The U.S. labor market is firmer than it looks in September data, and results tilt DE’s balance of economic scenario risks to the upside. A 156,000 rise in nonfarm payrolls still represents a pace more than sufficient to take up labor market slack, and the acceleration in average hourly earnings to 2.6% y/y continues a pattern of subtle-but-important motion toward greater traction as the labor market tightens. The Phillips Curve may have been a less reliable guide in recent years, but there are signs it is kicking in. Signs of rising wage pressures and healthy consumer financial conditions provide key support for growth momentum moving forward.

From a Fed perspective, those members who believe there was a case to move in September will say so again at the November meeting. Key doves, of course, will see no urgency and prefer waiting until at least December, when we have the benefit of two more jobs and PCE inflation reports. Doves may note the rise in the labor force is evidence that the labor market still has some room to run, and that while likely expanding above potential in the second half and into 2017, the economy is not exactly overheating. One signal that received some attention after the jobs report is a move in the jobless rate above its 12-month average. In the current environment, we see that less as an indication of stalling improvement, and more a reflection of flows into the labor force as wages rise.

We expect a move at the December meeting provided no fresh shocks or an unanticipated downswing in labor market indicators in the interim cause yet another delay. We then see three hikes in 2017 as inflation moves above 2% after mid-year, and five in 2018. DE’s expected path remains above both market pricing and the FOMC median. As inflation rises toward, and through 2% in 2017, a low-rate path appears less tenable in our view, despite doves’ protestations, particularly if fiscal policy turns more expansionary after the U.S. election.

We reiterate that when accounting for underlying demographic trends, only about 100,000 people, on average, need to find work in order for to keep the jobless rate near the Federal Reserve’s estimate of 4.8% as “full employment”. We also remind investors that anchoring on 3-4% real economic growth as “normal” is not reasonable, with potential growth more likely around 1.5% (Fed assessment at 1.8%-to-2%). With an eye on market implications, we remain upbeat on the relative attractiveness of equities over fixed income, as we see a faster rise for short rates than markets imply, and dollar strength on interest rate and growth differentials.

• S.: The Minutes to the September 20-21 FOMC Meeting (Wed) are due, along with September retail sales (Fr). Fed Chair Yellen (Fri) will appear, along with Evans (Mo) and Dudley (We). The second of three U.S. presidential debates will happen Sunday night.
• Eurozone: The taper speculation may reflect confusion from the ECB about the inflation outlook as well as splits about the appropriate policy course. The ECB may be confused about the economy too! It still points to a moderate economic recovery, but acknowledges that business and consumer surveys (surely designed to track the real economy) are not only above average, but are actually robust. More solid signs should be evident in the August Industrial Production (We).
• UK: Markets will still be looking more from the pronouncements from politicians as they assess the timetable and aspirations of the apparently impending exit from the EU. Sterling remains the main casualty as stock prices have risen. Perhaps of no great high-profile will be the BoE-compiled Credit Conditions Survey (Fri) which may give an insight into if banks have become more wary about lending.
• Japan: After a modest miss in the Tankan Survey last week, the data flow is lighter, with August machinery orders on the docket.
• China: September consumer prices (Fr) should show acceleration, and we continue to believe the case for further monetary easing remains limited.
• Other Central Banks: A policy meeting is due in Korea (Th), where the central bank should remain on hold after one cut earlier in 2016.

[private]gmw_1007[/private]