Tightwire Act
The Fed could be walking a tight wire. The state of the labor market is critical for Fed policy. As the labor market remained tight, the Fed could afford to be patient with rate cuts to make sure inflation does not revive. But a Bloomberg economist is taking exception to the idea that the labor market is strong and suggests that the Fed may be keeping rates too high for too long.
The reason behind this conclusion is something called the birth-death model, which is designed to account for the effect of business closures and the opening of new businesses. As it turns out, this model has also been the primary source of the strong jobs data. The problem arises because it appears this statistical model is not functioning as well as it has in the past. Some new data released this week suggests that the model is under counting business closures and over-counting new business openings and thus overstating the number of jobs being added. Bloomberg economist, Anna Wong, was quoted as saying
“Several Fed officials seem to believe the labor market is still tight, but we estimate, based on more comprehensive measures, that monthly nonfarm payrolls prints likely overstated job growth by 730k last year — with hiring maybe even falling below zero in October.”
The oddness of the employment data was in full display on Friday when 272,000 jobs were added in May, according to the establishment survey, with the birth-death model accounting for 85% (231,000) of the 272,000 jobs added. Meanwhile the household survey reported a loss of 408,000 jobs in May. The unemployment rate, which is based on the household survey, rose to 4%
If Wong is correct, the labor market is far weaker than the Fed believes. The risk is that the Fed overstays its welcome with high rates and weakens the economy. It will be most interesting to see if, and how much, the job numbers change over the coming months in response to this data. If Wong is correct, it does suggest that the Fed may be more likely to cut rates sooner than has been generally accepted.
What does that mean for markets?
This is never an easy question. If the rate cuts are in response to a rapidly declining economy, the stock market reaction may not be good at all. If the cuts are simply a mid-course correction, then we remain in a late cycle economy which is generally conducive to higher stock prices.
In the bond market, the same issues apply. A rapidly declining economy implies rates could decline significantly, which is great for bond prices. The mid-course correction would still be good for bond prices, but less so.
Inflation Isn’t Dead Yet
Inflation has certainly come down from it’s lofty heights over a few years ago, but commodity prices are springing back to life. The chart below tracks three commodity ETF’s, one for agriculture, one for base metals, and one for energy. Energy had a little flurry in April/May, but prices have essentially flat-lined this year. On the other hand, base metals (comprised mainly of zinc, copper and aluminum) and agriculture (mainly cocoa, corn, coffee, soybeans and live cattle) have had some re-acceleration of prices in 2024 after a year plus of stability. Commodity prices aren’t the whole inflation story, but this does indicate that squeezing out that last bit of inflation to get to the 2% target has been, and will probably continue to be, difficult to achieve.
NVIDIA Hits $3 Trillion Market Value
The attention around NVIDIA (NVDA) remained intense this week as the market value of the company breached $3 trillion. A strong earnings report and a leading market position in the transformational AI trend can do wonderful things for a stock. NVDA has more than doubled this year, but if it is to double again, they will have to add another $3 trillion of value. This is the momentum play for the ages, but be careful, trees don’t grow to the sky.
Have a great week!
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Commodities, Inflation, Interest Rates, Jobs, Jobs Data, Nvidia, unemployemntBy: Adam
