Fed: An On Track NFP

Published on May 5, 2017

That was a handsome looking Non Farm Payrolls number.

*** So we don’t bury the lede, our sense is that the healthy NFP breakdown will not only bolster the Federal Open Market Committee consensus for a June rate hike, but more of the same in the labor market over the coming months will significantly lower the bar to a September rate hike. ***

*** And if taking the base case path even further out the policy horizon, the Committee’s willingness to consider a fourth rate hike this year in December can’t be excluded, even with a start to the balance sheet normalization. We would look for an uptick in 2017 rate dot plot in June. ***

A couple of quick points:

Federal Reserve officials will be taking the 211,000 jobs, the dip in the headline unemployment rate to 4.4%, and a healthy looking 2.5% annualized increase in the Average Hourly Earnings all as a clear vindication of their insert into the Wednesday’s May meeting statement that “the slowing in growth during the first quarter as likely to be transitory.”

Likewise, it reinforces their faith in the base case forecast — a pleasant change from the past disappointments at the start of recent years — for a sustained above trend growth and a steady ongoing tightening in the labor market that should underpin the upward pressures on wage growth.

On the 2.5% AHE annualized growth, we doubt the FOMC will take that as a disappointment but nearly its opposite. There is likewise unlikely to be much in the way of a further downward revision in the estimated longer run unemployment level, or NAIRU. Instead, the Fed’s base case expectations on NAIRU and wages is a stretched linkage at best, with so many other factors other than just a tight labor market having repressed wage growth for so long.

But if there is anything to Fed Chair Janet Yellen’s “pent-up wage deflation” thesis (see SGH 1/19/17, “Fed: On the Near Policy Path”), the sort of wage growth the Fed would like to see — a sustained above 3% growth, which is the new 4% level of years past — will be the very last leg of a long healing of the labor market. In that scenario, wages are probably more likely than not to start rising more rapidly and clearly closer towards the end of this year.

One other point, inflation prints have surprised a bit to the downside in recent months, in part, due to the softening in crude oil prices after a steady upward climb that has underpinned a modest rise in headline inflation measures. Crude oil prices went into a virtual freefall in recent days, which has caught the wary eye of Fed and other central bank officials worried that inflation will once again deflate in the core measures down the road.

Our sense, however, is that the Fed will be looking past the current downturn in oil prices on the assumption crude prices will rebound before too long back above $50 a barrel, and with it, lifting other commodity prices.

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