The latest jobs report showed the economy created 295,000 jobs in February and surprised markets on the upside though overall the report was not as good as the headline-number would suggest, said Jan Hatzius, chief economist at Goldman Sachs.
The unemployment rate also came down a bit, but that was driven primarily by weak labor-force participation. Similarly, wage gains also came in a little bit on the softer side; so when all data points are taken together, it’s a good report but not wildly away from expectations, he added.
Most of the sectors across the board witnessed robust growth with manufacturing and business services topping the chart. Even retail added 32,000 in a month when everybody thought the deadlock at the West Coast port would slow down things pretty much.
Asked to explain, Jan said there was no special effect on the economy from either the West Coast port slowdown or the weather. The construction number was pretty good though a little lower from the last couple of months. The composition of jobs gains was relatively strong though there was a decline in mining employment – from the oil-sector, but otherwise quite firm, he observed.
Investors were worried lately because of the Fed’s slow response to the strong job reading since monetary-policy lags the business cycle anyway. Fed’s Fischer said recently the peak effects from unemployment would be visible this year and the peak-effects from inflation would be visible next year.
Asked if investors are right in worrying the Fed is behind the curve, Jan answered in negative. It’s not a good-idea to raise interest rates at a time when wage and price inflation are well below where they ought to be in the longer term. While investors can argue the Fed is slow to react to headline numbers, it’s better to wait longer before a lift-off as argued by Chicago Fed President Evans.
The Fed is likely to lift-off rates in September and Goldman forecasts a rate-hike of 25 basis points (0.25 percent) then, followed by another 25 bps hike three months later. They will test the waters and move very slowly because after-all it would be the first hike in more than nine years and the Fed would like to see the market’s reaction and the economy’s performance.
However, over time, the pace of rate hikes could accelerate and beat the expectation that is built in the markets at the moment. The Federal Funds Rate (FFR) is likely to go up substantially from the current level; Goldman expects the FFR to be around 3.75%-4% in 2018, he noted.
Asked if the economy could slip into a recession in three years in such a high-yield environment, Jan said expectations have changed and the environment would be very different (from the current one). While the case is quite strong to be patient in the current environment, over the next few years the economy is expected to make significant progress in capacity utilization and inflation, he argued.
Despite the strong headline jobs number, labor force participation rate was only 62.8 percent last month, which means 92.9 million people are not working for one reason or another.
Asked if that slows down the expectation for progress despite such a huge number of people getting jobs, Jan answered in affirmative. If the labor force participation rate actually rebounded to the levels that were witnessed back in 2007, it would open up a lot of additional labor resources.
However, that expectation is not realistic since a substantial part of the decline in participation rate is due to aging of the population. Beyond that, there’s some cyclical slack in the participation number and the participation rate is likely to move sideways – maybe a touch higher in the next couple of years, but the participation rate is never going to regain earlier levels, he concluded.
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The dollar is rising. Inflation is under control. All the foreign central banks that matter are doing QE. Raising interest rates would make the dollar even stronger. What does that mean? It probably means that the deflationary effect of raising interest rates even .5% would increase the value of the dollar even more and force the economy into deflation and recession. The Fed is in a “Coffin Corner.” They won’t do more QE and raising rates is going to be deflationary. We are becoming Japan. Just a thought.
Jim,
That’s pretty close to how I see things as well. The question is how long will central banks be able to prop the markets up until some reality sets in? No one has that answer, so it pays to be prepared via the use of an exit strategy. Let’s see how the EU does with their QE program, which starts today…
Ulli…