The Strategist

Buckle up: labour market data flurry will shape next Fed policy meeting

September often brings increased volatility to equity markets, and this year is no different with several significant events poised to influence capital markets. Critical labour market data in the US and the upcoming Federal Open Market Committee (FOMC) meeting, where the US Federal Reserve will likely begin a cycle of rate cuts, are particularly noteworthy. Amidst a backdrop of shifting economic indicators and the approaching US presidential election, these developments warrant close attention.

Date
Auteur
Tina Jessop, Senior Economist, LGT Private Banking
Temps de lecture
10 minutes

US Schuldenobergrenze
© Shutterstock

September is frequently characterised by heightened volatility in equity markets. This year may be no exception, with several pivotal events poised to influence capital markets. A series of labour market data releases will provide further insight into the state of the US economy, culminating in the next Federal Open Market Committee (FOMC) meeting on 18 September. This meeting, where the US Federal Reserve (Fed) sets monetary policy for the subsequent six weeks, is particularly significant as it comes ahead of the contentious US presidential election in November. At the time of writing, the market is widely anticipating the Fed to start a cycle of rate cuts from current multi-decade highs. However, there is considerable divergence in opinions regarding the extent of cuts at the upcoming September meeting and whether the market's pricing of the Fed Funds rate trajectory over the next six to 12 months is appropriate. 

A tempest in a teacup?

But let’s first take a step back. This week’s labour market report and similar labour market indicators follow an unexpectedly disappointing labour market reading for July. US unemployment rose from 4.1% to 4.3%, triggering yet another recession indicator, the “Sahm Rule”. This growth scare sent global equities into a tailspin, exacerbated by low trading volumes during the summer holiday season, and prompted a significant repricing of monetary policy expectations as investors anticipated a more aggressive response from the Fed to lower rates before year-end. Although equities have since recouped their losses, expectations of rate cuts remain elevated.

The process of monetary policy normalisation is inherently challenging, especially when operating on the slippery slope towards a soft landing while certain corners of the economy remain riddled with sticky inflation. Last month’s labour market disappointment may prove to be a storm in a teacup. A closer look reveals that the rise in unemployment was caused by an increase in the labour supply (new entrants and re-entrants to the job market) as well as temporary layoffs, which are likely to have been heavily influenced by poor weather conditions. Permanent layoffs, which would indicate a broader downsizing of the workforce, remain elusive on a larger scale, with a few exceptions in specific sectors. At the same time, consumer spending continues to defy the gravitational pull of higher interest rates and various GDP Nowcast measures for the current quarter maintain a resilient annualised growth rate of 2-3%. 

We see signs for a 100 basis point reduction by year end

Nevertheless, we believe the Fed will deliver on the dovish side of rate cut expectations. This expectation is supported by clear evidence of labour market slowing. Private sector hiring intentions have cooled notably, job openings are approaching pre-Covid levels and wage growth is moderating. At the Jackson Hole conference, Fed Chairman Jay Powell specifically emphasised that the Fed does "not seek or welcome further cooling in labour market conditions", implicitly acknowledging the changing dynamics of labour supply. In addition, we believe that the inflation-adjusted Fed Funds rate is highly restrictive and that a timely return to "neutral" levels is necessary to mitigate the risk of a more pronounced economic slowdown or an external shock that negatively impacts consumer and small-business confidence. We therefore project a 50 basis point cut in September, followed by two 25 basis point cuts at the November and December FOMC meetings. 

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