Expectations of a major interest rate cut in September had lost steam after recent economic data showed that recession fears were just hype about nothing, but with the labor market now in the driver’s seat of monetary policy, the August jobs report has the potential to revive bets on a major rate cut in September.
The labor market is now in the driver’s seat of monetary policy.
“The Fed’s decision on whether to cut interest rates by 50 basis points in September will hinge on the August jobs report, which will be released in early September,” Citi economists, led by chief economist Andrew Hollenhorst, said in a recent note.
The added importance of the labor market comes as the latest inflation reading suggests a September rate cut is “almost certain,” which would likely put inflation in the Fed’s rearview mirror and shift the central bank’s focus to the labor market, Citigroup said.
“The third straight month of core consumer price inflation below 2% makes a September rate cut all but certain, and should keep Fed officials focused on employment and growth,” the economists added.
Citigroup estimates that Fed officials could agree to cut interest rates by 50 basis points if the unemployment rate remains at 4.3% or rises, and that could be possible even if the unemployment rate falls by just 0.1%.
Citigroup’s call for deeper rate cuts amid a deteriorating labor market is worthwhile. Fed Chairman Jerome Powell has repeatedly signaled a heightened focus on the labor market and said the central bank would act if unexpected weakness occurred.
“If the labor market weakens unexpectedly or inflation declines more rapidly than expected, we are prepared to respond,” Powell said at the Federal Open Market Committee press conference from July 31 to August 1. The Fed chairman acknowledged that the labor market had slowed and returned to pre-pandemic levels, but said it remained “strong” but not excessively high.
Was the weakness in the July jobs report “temporary”?
But the comments came before July nonfarm payrolls data showed the U.S. unemployment rate rose 0.2 percent to 4.3 percent, sparking recession fears and prompting many to hit the panic button on the stock market.
“The most worrying sign is the unemployment rate rising to 4.3% from a low of 3.4%,” Citigroup said, although the latest jobless claims data, which has been declining for the past two weeks, raises “speculation that the weak jobs report in July may have been ‘transitory.’”
The reassuring data has raised the odds of the Fed cutting interest rates by just 25 basis points in September to around 75% from 50 basis points, with the latter now at just 25% compared to 51% the previous week.
Powell continues to try to keep his cards close in Jackson Hole
With weeks to go until the August nonfarm payrolls report due on Sept. 6, Powell’s comments in Jackson Hole next week “could also be important in assessing the Fed’s likely path forward,” economists added.
But Federal Reserve Chairman Jerome Powell is expected to keep his policy papers under wraps, with policy-influencing data, including the August jobs report, still on the horizon.
“Since the September policy move is dependent on yet-to-be-released data, Powell is unlikely to provide clear guidance toward a 25 or 50 basis point cut,” they added.
But there is a risk that Fed Chairman Powell could signal a easing of monetary policy if he signals the need to “get to neutral more quickly,” Citigroup said.