Kristina Hooper, US investment strategist and head of US Capital Markets Research & Strategy for Allianz Global Investors. She has a B.A. from Wellesley College, a J.D. from Pace Law and an M.B.A. in finance from NYU, where she was a teaching fellow in macroeconomics.
Two key events last week—the release of December FOMC minutes and Friday’s dismal jobs report—provide investors with important insights into the Fed’s current mindset and potential future actions.
The Fed Goes Holistic
The biggest surprise in the recently released minutes was not that there was a dramatic internal debate over tapering, as some Wall Street watchers expected. In fact, there was little deliberation on the topic, as the Fed appears increasingly confident in the US economic outlook and believes downside risks to economic growth have diminished. The minutes also reaffirmed that the Fed will keep the pace of its asset purchases data-driven, which had been disputed earlier in the fall.
Instead, the big eye-opener was the significant internal debate around issuing forward guidance on the Fed funds rate. The minutes show that after discussing a quantitative shift—“changing the goalposts” by moving its unemployment target for tighter rates to 6% from 6.5%—the FOMC ultimately decided on qualitative language that will enable them to look more holistically at employment and the overall economy.
Clearly, the Fed is looking for more leeway in deciding when to tighten by developing a fuller, more rounded analysis of the economic data, which will also include a close look at inflation. Given the warnings about the deleterious effects of low inflation by some FOMC members, including Boston Fed President Eric Rosengren, this comes as no surprise.
A Disappointing Jobs Report
With the Fed’s data-driven focus for future asset purchases freshly reaffirmed, the Street eagerly awaited Friday’s jobs report. The numbers were a big disappointment, especially following the strong private payroll growth shown earlier in the week in the December ADP report. Nevertheless, while nonfarm payroll growth for December was a relatively anemic 74,000, the unemployment rate dropped to 6.7% from 7%.
Coming on the heels of the FOMC minutes, the report provides a good example of why the Fed wants to take a more holistic tack and add a qualitative dimension to its guidance for the fed funds rate: The unemployment rate can fall significantly, but it may be for the wrong reasons.
Getting the Big Picture from a Mosaic of Data
Investors should take comfort in knowing that the Fed is not just focused on a quantitative metric such as the unemployment rate, but will instead look at the entire jobs picture. Think of it as analyzing a “mosaic of unemployment data.” It’s critical to take a more complete view because the flaws we have focused on in the past are still there:
||The number of “persistently unemployed”—those jobless for 27 weeks or more—remains high and is growing in percentage terms, to 37.7% in December from 37.4% in November (which was already higher than October’s 36%).
||The labor-force participation rate fell to 62.8% in December from 63% in November.
Both the increase in the number of long-term unemployed and the decrease in the labor-force participation rate are a result of the expiration of long-term benefits in December, which led to a large contraction in the number of jobless. Yet while this explains the data, it doesn’t alleviate concerns about the growing number of people who are no longer receiving benefits, which could create a drag on the economy.
While the disappointing jobs data moved bond prices higher on Friday, pushing down yields, investors should recognize that it’s just one month and may be an aberration; indeed, many economists believe the weather played a significant role. And don’t overlook that November non-farm payrolls were revised upward to a healthy 241,000 from an already strong 203,000.
So don’t expect the Fed to react hastily to the December jobs report; they will clearly be interested in seeing if it was a trend that can be confirmed by other economic data points. But do expect the Fed to remain highly accommodative. Asset purchases will be measured and thoughtful while the Fed funds rate will be looser for much longer than the markets anticipate. The Fed will seek to remain “behind the curve” and not act too soon as the recovery continues, supporting the economy with low short-term rates.
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