Interest rate risk has risen again.
But before that, later resuming obedience to Clinton’s Law (“It’s the economy…”), the weekly political review and attempt to talk the anxious down from trees.
Being president is tough, and most behave oddly from time to time. A few months after election as FDR’s VP, Harry Truman said about him, “He lies.” Seven years later Harry chuckled at the prospect of newly elected Eisenhower giving orders in the White House, and his surprise that nothing would happen. But Harry had been a captain of artillery, and Ike had managed the largest and most fractious alliance of all time. After dealing with de Gaulle, Churchill, and dozens of cranky generals, the White House was relaxing. Others even with considerable organizational experience had a hard time (Hoover, Grant, LBJ).
Most citizens understand the work and behavior of CEOs from TV drama. Reality is very different, mostly boring. However, all big-company CEOs must deal with rebellion in ranks low and high, and often embarrassingly public. Successful CEOs respond by going on CNBC, smiling and laughing, often self-deprecating (JFK-style) but steel-steady. “Our company has tens of thousands of employees, and some are unhappy with me most of the time. It is important that I listen to them, and occasionally ask them if my head is lodged in a bad place. But we have work to do, must avoid distractions, take disagreement in stride, and get on with the work. Good day (smile).”
This week’s Woodward book and NYT Op-Ed had no discernable effect on markets because none of the information was new — not in the sense of changing anybody’s mind. Woodward is a fine reporter, and reported, but mostly frills. The NYT Op-Ed was a psy-war op, intended to upend the target, as in Thurber’s “The Catbird Seat,” or Trapper John (Elliot Gould) and Hawkeye (Donald Sutherland) destabilizing Major Burns (Robert Duval). These ops are effective only if the target takes the bait.
In markets, we also have work to do. So does the Fed.
The first week of each month brings the most important data from the immediately prior month — partly because the data is fresh, but mostly because the reports are so descriptive. We get the twin surveys from the old purchasing managers association (unhelpfully today, the “ISM”), which this week again were on fire. The manufacturing one expected at a hot 57.7 soared to 61.3, one of the highest in the 45 years of survey history. “50” is breakeven. The employment component reached 58.5, and new orders 65.1. The second survey is the larger service sector, also on fire, up to 58.5.
This morning, more in confirmation than surprise, employment data for August beat expectation and killed any Fed hope for slowdown. 210,000 new jobs! However, “internals” were not quite so hot: no change in hours worked, nor in part-timers looking for full-time, nor rate of participation in the workforce, nor employment-to-population ratio. There was a little up-flicker in wages, but nothing meaningful.
So, whatever has been going on is still going on, but interest rates rose, the 10-year T-note again approaching 3.00% and mortgages high-fours.
Why a rate rise if the economy is in a steady pattern? The rise this week is still inside the range which has held since February. If data continues as it has, sometime in the next six months the Fed will have to discuss out loud and decide whether it will begin a protracted pause of hikes in mid-2019, or to continue upward, trying to slow the economy.
Two things are involved in this Fed future: style and substance, duties not to surprise markets, and to get the decisions right. Before the mid-1990s and a more open Fed, it believed that surprising markets was part of the job — otherwise markets would just follow the Fed and cease being markets. In the 1990s the Fed learned that it is the one global central bank, informally but powerfully influencing the whole world, and markets are infinitely larger, more interconnected, and move at light speed.
The Fed for the last three years has had the great luxury of “normalizing,” alleging that it’s just adjusting, like hiking pants, not doing anything to the economy. From here, substance will be very, very tough. If inflation and wages stay in the box, the Fed might get away with a long pause, waiting until fiscal stimulus fades in 2020. If inflation jumps the box, the Fed will act within political limits — the people and Congress, not the White House.
But life for the Fed is rarely so tidy. Reasons to be pre-emptive, a short pause followed by hiking: the job market, and the tendency of all economies to enter self-reinforcing spirals. Reasons for a long pause: when the Fed tightens, it tightens for the world, which is not overheating as we may be. And in light of previous bouts of inflation built into back-look Fed models, as crazy as it may sound, the whole fool world may have entered a long period of above-trend growth and low and stable inflation.
Since nobody knows now which of those two paths will be are correct, long-term rates will oscillate with inbound news, going up when repots are as strong as today’s. And of course we’ll see occasional wild cards, like this China tariff idiocy, but so far noise is predominant here and officials overseas seem to understand our situation.
The 10-year T-note in the last year:
The 2-year T-note is still forecasting a pause near 2.75% in spring after three more hikes. If 2s rise into the 2.80s and beyond, same for the Fed:
From the Bureau of Labor Statistics today, unemployment stopped its big decline one year ago, but employment gains are steaming along, untouched by Fed hikes to date:
Also from the BLS this 10-year chart of Unit Labor Costs, one of the two best inflation warnings (the other is the Employment Cost Index). During initial stages of recovery, high volatility, but stable overall. In the last year a 1.9% gain, not scaring anybody:
If the Atlanta Fed’s GDP estimate for 3rd quarter GDP holds, pressure will build on the Fed and rates: