Today’s July non-farm payroll release showed 209,000 jobs added which was above expectations of 180,000 jobs created and the prior month’s reading was revised up by 9,000 jobs to 231,000. The unemployment rate edged lower to 4.3% from June’s reading of 4.4% although the participation rate edged higher to 62.9% from 62.8%. Average hourly earnings grew 2.5% yoy in line with last month’s reading of 2.5% yoy: this follows on from a muted Q2 employment cost index report which registered a 0.5% quarterly gain and a year on year rate of 2.4%.
Today’s numbers continue the recent US data trend of an improving labour market but still subdued inflation and benign wage picture. The next FOMC meeting is scheduled for 19-20 of September and we expect that the Fed will begin its balance sheet normalisation program which has been well flagged to the market over the past couple of months.
While the Fed can be considered to have reached its maximum employment goal, the price stability objective is proving much trickier with the Fed’s favoured inflation measure (personal consumption expenditure) languishing below the 2 percent goal. Opinion is split between committee members seeing the softening in inflation as transitory and those that are concerned progress towards to objective may have slowed and that the softness could persist. To us this implies a cautious and gradual approach to any further rate rises and downside risk to the ‘dot plot’.
That said, the Fed they will also have to consider the relaxation in financial conditions, US dollar weakness and some signs of a pick-up in investment spending. Q2 GDP grew 2.6% (quarterly annualised) and business investment was robust growing 5.2% after a 7.1% gain in Q1. But with a lack of detail on fiscal stimulus initiatives, tax reform or other policy initiatives from Donald Trump’s administration it is difficult to see how US growth can be sustainably boosted back above 3%: the structural trends of poor demographics, secular stagnation, a slow-down in labour productivity and elevated global debt levels remain firmly entrenched.
The IMF noted in their latest Article IV Consultation report: ‘The U.S. is effectively at full employment. For policy changes to be successful in achieving sustained, higher growth, they would need to raise the U.S. potential growth path. The international experience and U.S. history would suggest that a sustained acceleration in annual growth of more than 1 percentage point is unlikely. Indeed, since the 1980s, there are only a few identified cases among the advanced economies where this has happened. These episodes mostly took place in the mid to late 1990s against a backdrop of strong global demand, and many of them were associated with recoveries from recessions. The U.S. itself experienced one comparable growth acceleration as it recovered from the deep recession of the early 1980s. However, this event occurred during a period of favorable demographics, rising labor force participation, a significant expansion of the federal fiscal deficit, and an acceleration in trading partner growth. These tailwinds are unlikely to recur today.’
Our view remains that the Fed will remain ahead of the curve and the yield curve will flatten so we continue to favour positioning at the long end.