Weak Jobs Report Highlight of An Eventful Week for Fed Policy

Last week was a very eventful one for Fed policy. To us, the most important development was the very weak jobs report for May, released on Friday, which prompted us to further move up our projected rate cuts. We now expect a rate cut in July, followed by another cut late this year. As we wrote in our commentary on  Friday (link), that jobs report, while a substantial disappointment relative to expectations, still paints a picture of a healthy labor market in absolute terms. But the FOMC is focused on downside risks, and the labor market data, once unambiguously robust, now show a slowing in job gains since 2018 that is more in line with the slowdown that has been apparent in the spending data. Equities rallied on speculation that the Fed would ease policy in the near term, and markets were also cheered by the news that Trump would not follow through on tariffs on Mexican imports after an agreement on immigration was reached. The threatened tariffs on  Mexico were not a factor for us when we first moved up our expected timing of the first-rate hike into this year, so this resolution doesn’t fundamentally affect our call. 

Last week was also the Fed’s research conference in Chicago, part of its ongoing strategic review. Larry will be publishing shortly a commentary about his takeaways from the conference and its implications for any changes to the Fed’s framework. Fed policymakers, meanwhile, at the conference and elsewhere, commented on the recent market speculation about near-term rate cuts, generally signaling a willingness to adjust policy as appropriate while maintaining that they were reasonably comfortable with the current policy stance. (See  our note on some of the comments from policymakers.) 

Policymaker Remarks 

Last week, several policymakers commented on the recent market focus on the prospect of near-term rate hikes. Powell (6/4), in his opening remarks at the Fed’s conference in Chicago, took the opportunity to say, “I’d like first to say a word about recent developments involving trade negotiations and other matters.  We do not know how or when these issues will be resolved. We are closely monitoring the implications of  these developments for the U.S. economic outlook and, as always, we will act as appropriate to sustain the  expansion, with a strong labor market and inflation near our symmetric 2 percent objective.” As we wrote last week, while Powell expressed openness to adjusting policy, he didn’t provide much new information about under what circumstances he would be open to adjusting policy. 

While those comments from Powell didn’t much affect our views on near-term rate cuts, we saw comments from Clarida as somewhat more telling (6/4). In particular, he seemed to signal a willingness to adjust policy if several perhaps modest changes to the outlook together warrant it. He said, “we get a sense that growth  is slower than we expect, and if we get the sense that underlying inflation is below where we want it to be,  then … we’re going to put in place appropriate policy to achieve those goals.” He explicitly did not rule out a  preemptive cut: “Whether or not [appropriate policy] means acting preemptively or when the data comes in  is just going to depend on the context at the time.” He continued to express openness—in principle—to so 

called “insurance cuts,” saying, “I’m not going to look into a crystal ball. I will look into the past…That has  been in the monetary policy toolkit in the past.” He also said that the FOMC “can’t be handcuffed to” market expectations. 

Brainard (6/5), speaking a day after Powell, similarly said that the Fed would be “prepared to adjust policy to  sustain the expansion,” noting that “Trade policy is definitely a downside risk to the economy, and our job is  to sustain the expansion and we’ll need to see going forward what that means for policy.” Williams (6/6)  said, “My baseline is a very good one but at the same time we obviously, as always, need to be prepared to  adjust our views.” He seems to have been interpreted as being slightly less open to cuts because he noted that, while the inverted yield curve provides a “pretty strong signal” that markets expect rate cuts, such expectations don’t require the Fed to actually cut rates. Similarly, Evans (6/4) said that market expectations  for cuts suggest that “the market sees something that I haven’t yet seen in the national data.” He  acknowledged, however, that, “With inflation being a little bit on the light side, there’s the capacity to adjust  policy if that’s necessary.” Kaplan (6/6) said, “I think risks to the downside have increased but I think it’s too  soon to make a judgment about whether any actions would be appropriate.” Daly (6/4), like most of her  colleagues, was cautious about changing her views on the appropriate policy setting, saying, “I think patience  is the way we should be right now.” But her comments were somewhat unique in that she said “I don’t want  us to get too focused on only trade when there are these other looming uncertainties that also need  resolution.” (By the way, we agree!) She pointed to the broader slowdown in the global economy and the uncertainty surrounding Brexit weighing on activity. She added that “What really keeps me up at night is the  data and the mood getting out of sync and, eventually, the possibility that the mood becomes the self-fulfilling  prophecy of the data.” Barkin (6/3) similarly remarked that “There is no particular reason why the economy can’t continue to keep moving. I do worry about the risk that we talk ourselves into a recession.” To this point, Bullard has gone the furthest in expressing openness to a near-term rate cut (6/3). He said, “A  downward policy rate adjustment may be warranted soon to help re-center inflation and inflation expectations  at target and also to provide some insurance in case of a sharper-than-expected slowdown.” 

Nowcasts (2019:Q2) 

Source Current One Week Ago Two Weeks Ago
Atlanta Fed GDPNow 1.4% 1.3% 1.3%
New York Fed Staff Nowcast 1.0% 1.5% 1.4%
CNBC/Moody’s Survey 1.7% 1.6% 1.8%

Recent Data 

The May employment report was a big disappointment. Payrolls increased only 75K in May, and, in addition to that disappointing figure, downward revisions to previous months’ gains totaled 75K. Other areas of the report, particularly the household survey, weren’t so poor. The U-3 unemployment rate remained at 3.6% in  May, and the participation rate was unchanged at 62.8%. The broader U-6 rate declined a further two tenths,  to 7.1%. Average hourly earnings increased a modest 0.2% in May, and the 12-month change edged down to 3.1%. The labor market still looks strong, but policymakers will be intently focused on any change in direction in the labor market. 

The other incoming data last week were mixed but continued to come in broadly consistent with expectations of only modest real GDP growth in Q2. The construction spending report for April included upward revisions to the Q1 monthly data but showed that construction spending was flat in April, with a strong gain in public construction offsetting a decline in private construction spending that extended across both the residential and nonresidential categories. The ISM manufacturing index disappointed, declining in May, while the subsequently released nonmanufacturing composite surprised to the upside. The trade balance was reported to have narrowed in April, from a level in March that was revised down (more negative). Productivity growth was marked down a tenth in Q1, to 3.4%, but the bigger news was significant downward revisions to hourly compensation in the last two quarters, which translated to sharply lower unit labor costs.

Release Period Actual Consensus Revision to  Previous ReleasePreviously  Released Figure
ISM Manufacturing May 52.1 53.0 — 52.8
Construction Spending MoM Apr 0.0% 0.4% 0.1% -0.9%
Wards Total Vehicle Sales May 17.30m 16.90m — 16.40m
Core Capital Goods Orders MoM Apr F -1.0% — — -0.9%
Core Capital Goods Shipments MoM Apr F 0.0% — — 0.0%
ISM Non-Manufacturing Index May 56.9 55.4 — 55.5
Trade Balance Apr -$50.8b -$50.7b -$51.9b -$50.0b
Nonfarm Productivity QoQ 1Q F 3.4% 3.5% — 3.6%
Unit Labor Costs QoQ 1Q F -1.6% -0.9% — -0.9%
Change in Nonfarm Payrolls May 75k 175k 224k 263k
Unemployment Rate May 3.6% 3.6% — 3.6%
Average Hourly Earnings MoM May 0.2% 0.3% — 0.2%
Average Hourly Earnings YoY May 3.1% 3.2% — 3.2%
Labor Force Participation Rate May 62.8% — — 62.8%
Underemployment Rate May 7.1% — — 7.3%
Wholesale Inventories MoM Apr F 0.8% 0.7% — 0.7%

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