The August payroll report hardly differs from any previous report this year. But given the financial market backdrop, we doubt the Fed will deliver a rate hike that the bond market is unprepared for.
At 173,000, plus positive revisions to previous months, US non-farm payrolls are cruising along at a remarkably steady pace this year. The US economy has consistently delivered monthly payroll gains of between 173,000 and 266,000 since January, 2015 (March was the only outlier). Given the Fed’s self-mandated thresholds for liftoff that they have been articulating all year, the August payroll report would have given policymakers enough ammunition to hike rates in September, if financial markets hadn’t recently revolted.
However, the Fed has no incentive to surprise investors in the current environment. EM currencies continue to break down (Brazil is seemingly entering a full-blown crisis). The ECB (please see yesterday’s Insight) has taken a more dovish turn, which implies further dollar strength if the Fed does not back off: a very unwelcome development for US exporters and multinationals. In addition, inflation is slipping away from the Fed’s target (to the downside), which means that, at a minimum, monetary policymakers will face a communication challenge if they raise rates now.
Indeed, the bond market is pricing roughly a 35% probability of a rate hike in September. If the probability was 50% or higher, we expect the Fed would go ahead. But given the fragilities listed above, the Fed will not be keen to deliver a hike that the bond market is ill-prepared for. With two weeks to go, and all of the “A” indicators already released, there isn’t much information that could trigger the bond market to re-price higher September rate hike odds.
Whether financial markets celebrate the “delay” or not, we believe will depend on the press conference and “dots”. Stay tuned.
Related podcast interview:
James Bianco: If the Fed Raises, It Will Get Blamed for Everything That Happens Next
