The first Friday of the month brings big news for the data dependent Fed. The market consensus is for 185,000 job gain and average hourly earnings increase of 0.2% and the work week to remain unchanged at 34.4 hours. In my opinion, a HUGE increase of 300,000 jobs with another 0.4% increase in wages (similar to last month) would bring great pressure on the FOMC to increase FED FUNDS more than the market’s expectation of 25 basis points. What I am saying is purely THEORETICAL but it would make for an interesting discussion for the DATA DEPENDENT FOMC. It’s especially interesting as the exuberance of the tax cuts, infrastructure projects, rollback of regulation, the equity markets should prompt the asymmetrical nature out of the FOMC decision-making process.
Ever since the Volcker FED slayed the inflation demon, FED policy has been directed by slow rate increases but rapid rate cuts to stem the any disinflation or recession threat. Remember when the FED raised interest rates in 25 basis point increments for 17 straight meetings from 2004-2006? The slow and steady pace of the Greenspan rate increases aided and abetted the phenomenal housing bubble, which resulted in a burst bubble and eight years of zero interest rate policy (ZIRP).
Astute economist Bill White of the BIS, questioned the FOMC policy with the following: “DO CENTRAL BANKS LEAN OR CLEAN?” Meaning, do central banks wait for the bubble to burst or push rates higher earlier in an effort to prevent a bubble from forming? Or do they rush to lower rates quickly to clean up the mess of a financial deleveraging? FED models require that the FOMC react to the unprecedented environment of FULL EMPLOYMENT and FISCAL STIMULUS. When Chair Yellen and Governor Lael Brainard discuss running the economy HOTTER FOR LONGER. We will find out just what HOTTER means. Please Santa, bring +300,000 jobs.
Now, the above discussion was absolutely THEORETICAL. As I have discussed for three years, Janet Yellen is cautious. Since she’s a labor economist she has a predisposition to allow wages to rise and be assured that all slack is removed from the labor market. Yellen is aware of headwinds and will certainly raise the appreciation of the DOLLAR and rising long-term yields as a reason for caution but I can dream of a FED leaning instead of cleaning. The question for all market participants: If the jobs report is very robust, is the probability of the FOMC staying at its current rate greater than the possibility of a 50 BASIS POINT increase in the FED FUNDS rate? Just thinking out loud in the realm where 2+2=5 is also a beautiful thing.
***Fifteen minutes after the JOBS REPORT, FOMC Governor Lael Brainard speaks. Pay attention to Brainard raising concerns about the strength of the DOLLAR as a headwind to U.S. growth. It has been Brainard’s dovish stance for the past year. Now that the dollar has rallied with the rapid rise in LONG YIELDS, Brainard will provide us with insight into the thinking of Yellen. Watch for her position an uber-dove and closeness to the FED chair could provide an offset to a good JOBS number. A good jobs number meaning something similar to the 216,000 ADP number put forward on Wednesday.
Or more important data point would be if average hourly earnings are at least 0.4%. I urge patience and of course preparation for the market reaction to these potential market-moving events. And of course Sunday brings Italy, so any trade is just that, a TRADE. Holiday thinning markets and year-end account balancing will create great volatility so prepare technical and be ready to take advantage of algo-driven opportunities.