Waiting for the Fed

By Chuck Lieberman, Co-founder & CIO

The August employment report actually fit in quite well with investor expectations, even though job growth was well below the consensus. Hiring is being held back by the Delta variant and the unwillingness or inability or people to return to work, even as firms increase pay to attract or keep workers. Critically, wage inflation pressures are fully apparent. The latest data will not likely change many minds at the Fed, but tapering is surely coming.

The rise in average wage rates was larger than expected in August, which is the first month rapid job growth in the leisure and hospitality sector didn’t distort that measure to the downside. Leisure and hospitality workers are the lowest paid sector, so when many people are hired in these industries, the average wage rate across the economy is reduced. This August, hiring in these industries was zero. So, the 0.6% rise in wage rates across the economy represents a cleaner look at what’s happening to wage rates more broadly and they are rising fairly rapidly. This news fits quite well with all kinds of anecdotal reports, such as the latest announcement by Walmart that it is boosting wages (again). It is clear that firms are still trying to hire and offering to pay more, but workers are still reluctant to accept jobs for the assorted reasons we all recognize. That imbalance between supply and demand is lifting wage rates, as should be expected.

With somewhat less hiring, growth is likely to moderate in Q3 compared to Q2 and Street estimates have been coming down. Still, it would be highly inappropriate to think the economy will enter a period of stagflation. Growth remains quite strong and it may pick up after schools reopen, extra unemployment insurance benefits expire immediately after Labor Day, and (hopefully) Covid cases begin to moderate.

The Fed will remain highly divided. Some look back to the highs pre-pandemic and believe many people remain to be hired, so policy should remain accommodative for a longer period. Others will look at the decline in the unemployment rate and the rise in wage inflation, which suggests that the Fed’s highly expansionary policies are now inappropriate. It is our judgment that a tapering of the Fed’s bond buying program will be announced soon, although it isn’t clear if it will follow the September FOMC meeting.

The markets will not wait, however. Investors tend to look ahead. Tapering is coming and inflation may not prove as transitory as suggested by Chairman Powell. And interest rates are not high enough to compensate investors for these risks. Smartly, the bond market steepened after the jobs report, with longer term rates rising more than short rates.

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