September FOMC: Hike Or No Hike?

Last week's nonfarm payrolls report for August gained more than usual attention as the release was seen by many as being pivotal to influence the Fed's decision on rate hike in three weeks. However, as with everything related to the Fed, the August payrolls report was mixed, to the point that there was enough fodder to feed the bulls and the bears.

But the main aspect of interest here is that if the Fed was intending to hike rates in September, going by the communication from various Fed officials just a week ago, then the landscape hasn't changed much, meaning that there is a very good chance of a Fed rate hike when it meets on September 20 - 21.

Payrolls - Revisions are the new norm

The past couple of months saw the payrolls report coming out volatile, with consistent revisions to past data. Earlier this year, the markets got a glimpse into the Fed's thinking when the March payrolls report disappointed. The following communications from the Fed showed that one should not read too much into a single report, which is the main take away for August payrolls report.

Data from the Bureau of Labor statistics showed that the US economy added 151k jobs in August. It was in fact better than what most analysts warned or feared, although missing estimates of 180k. The average hourly wages were seen to rise at a slower pace, of only 0.10% from July, while on a yearly basis earnings increased 2.40%. The US unemployment rate, was unchanged for the third month in a row.

Add to this data, revisions to past payrolls report and the outlook is entirely different. Revisions to June/July payrolls showed an increase of 150k, with July adding a revised 275k jobs. Average hourly earnings for July on a year or year basis increased from 2.60% to 2.70%. Besides the fact that the July/August payrolls could be revised, expectations are high that August payrolls will be revised higher with past revisions show this to be true 80% of the time.

US NFP Actual/Forecast/Revisions (Nov’15 – Aug’16). Source: Forexfactory

Is the data enough to convince Fed officials to hike rates?

Between Monday, September 5^th and the FOMC meeting, September 21^st, other economic indicators from the US include the consumer price index, retail sales data. In terms of Fed speak, while there are no scheduled events at least from Fed officials worth paying attention to, that could change.

The general consensus being that the Fed could be spooked into hiking rates in September at a time when the market expectations are on the other end of the scale. Following Friday’s jobs report, the CME futures fed funds tool shows an implied probability of 21% chance for a rate hike. This hasn’t changed much since Janet Yellen’s speech at Jackson Hole.

If the Fed misses this window in September, then the expectations for a rate hike is pushed off to December, after the US general elections. The probability for a December rate hike stands at 41.0%, slightly better than the September FOMC meeting. Still, December is a long way off and it leaves the Fed vulnerable to more data which could lead to the Fed practically keeping rates unchanged this year after last year’s 25bps rate hike. However, if the Fed officials do feel confident then a September rate hike remains quite a possibility and one which could catch the markets off guard.

Fed Funds Futures Probability (September. vs. December)

The week ahead is quiet in terms of Fed speak with only Eric Rosengren scheduled to speak. He is incidentally one of the last members to speak on the subject of rate hikes.

So far, here is a tally of the (FOMC voting) members and where they stand.

Janet Yellen: “the case for an interest rate hike in 2016 has strengthened”

Esther George: “Interest rates should go higher, but gradually”

Loretta Mester: "case for rate hikes is compelling"

Dudley: "We're edging closer towards the point in time where it'll be appropriate to raise interest rates further"

James Bullard: “I can see two rate hikes as possible when I look at the calendar. We have three more [policymaking] meetings this year, so that's possible”

Fischer: "U.S. economy is nearing full employment and had “withstood” the rise in the dollar’s value in foreign exchange markets"

Powell: "My view is, and has been, we should be on a program of gradual rate increases — we can afford to be patient"

Rosengren: Will be speaking this week

Brainard: No comments yet

Tarullo: “No rate hikes needed until inflation is more solid”

A more detailed breakup of the comments as of August 29 can be found here.

In conclusion, Friday’s payrolls report for August does nothing to dent the outlook for a rate hike. But the question remains whether the Fed will prefer to play it safe and postpone rate hike decision to December or if they will move ahead in September based on many hawkish views of the FOMC voting members.