Today's all-important employment report doesn't change anything for the Fed near-term. As I wrote Wednesday, I think September and December hikes are all but guaranteed. However in that same piece I outlined what it might take to cause the Fed to hike even faster, and with today's strong wage figure, it is at least worth discussing that potential. Here are my thoughts.
Job gains slightly weak, but it doesn't matter
Let's get this out of the way. The August job gain number came in at +201,000, which is slightly ahead of Bloomberg's survey at +190,000. However, the prior two months were revised down by 50,000 so net-net it's a miss. But this doesn't matter. The margin of error in this report is well above 50,000. Even after these downward revisions, the 6-month rolling average gain is +192,000. It only take about 120,000 to keep the unemployment rate steady. As long as employment is growing at 150,000-200,000, the pressure is on the Fed to keep hiking.
Wild household number also meaningless
The more conspiratorial commentators out there might point to the big decline in the Household survey (423,000 job loss) coupled with a big decline in the labor force (-469,000) as something to worry about. Don't. This survey is notoriously volatile. Last month's number was +389,000. February was +785,000. But if you look over the last year, the average gain is +173,000/mo which is about the same as the year-long gain for Non-Farm Payrolls. I pay literally zero attention to the household number.
The Fed cares about wages, but only to an extent
The key number here is the wage gain figure. Month-over-month Average Hourly Earnings grew at a 0.4% pace, which brought the year-over-year number to +2.9%. That's 0.2% better than expected in both cases. The 2.9% year-over-year number is the highest since the Great Recession ended.
The Fed is definitely paying attention to this. Their core economic models suggest that wage growth should be increasing with the labor market this tight. If today's figures turn out to be the start of a trend, it will confirm their belief that we are at full employment.
The next thing the model suggests is that there will be broader inflation pressure. That is what the Fed actually worries about. If wages grow without broader inflation, that's nothing for the Fed to worry about. As an aside, it might be something for stock investors to worry about, because it would imply that profit share is moving toward labor as opposed to capital. Regardless, the Fed won't step up the pace of rate hikes solely because wages seem to be growing a bit faster. Particularly since pre-crisis, wage growth was routinely higher than this anyway.
What it will do is make it harder for them to pause anytime soon. Their working theory of the economy is this: we're at full employment but there isn't obvious inflation pressure. Hence we'll hike slowly to make sure we don't let inflation pressure build but not so fast that we choke off the expansion. Seeing wages grow a bit faster is merely evidence that their theory is correct, therefore they are more confident in their plan. And it should remove any lingering doubt that continued rate hikes are justified.
Bond market reaction
All the trades I've been recommending are working today. The 3-7 year part of the curve is weak, but the long-end of the curve is outperforming. Hence that pair trade is working. Plus the dollar is up nicely. These are all good trades if you agree with my view of the Fed.