The FOMC has three main areas of concern for the immediate future of the United States economy, domestic inflation, the state of the global economy and the condition of the American job market.
Since the September 17th meeting two of those categories have deteriorated and one is unchanged.
Unless there are substantial economic changes in the next two months--and even if there were it is hard to see how they could justify a data dependent hike given the recent and unforseen weakness in the labor market--the Fed will have to find a new and different rational for increasing the Fed Funds rate.
The global situation, at least in economic statistics from Germany, China and Japan has worsened.
German industrial production unexpectedly fell 1.2 percent in August, analysts had been expecting a 0.2 percent increase. The annual increase was 2.3 percent higher, 1.0 percent below forecast. Factory orders in August dropped 1.8 percent, much worse than the 0.5 percent gain expected and the July result was revised down to -2.2 percent from -1.4 percent. And finally exports collapsed in August, falling 5.2 percent, far below the -0.9 percent forecast.
In Japan, orders for machine tools sank 5.7 percent in August, missing the 2.3 percent forecast by a wide margin and that followed a 3.6 percent decline in July and a 7.9 percent drop in June. The Japanese economy contracted 0.3 percent in the second quarter and is expected to have entered its fourth recession since the financial crash when the third quarter figures are issued on November 15th.
In China manufacturing contracted for the seventh straight month in September in one private purchasing managers’ survey. Even the official government PMI index was below the 50 contraction line in August and September.
In the U.S. the job picture was turned on its head by poor and completely unexpected results for August and September. Instead of the 200,000 new position forecast for September the economy generated just 142,000. In addition the two month revision removed 59,000 positions from July and August’s results, extending the weakness back to the middle of the summer. Average hourly earnings were also disappointment, flat in September and only 2.2 percent higher on the year, barely above inflation.
Inflation, the last Fed story, has been persistently below the 2.0 percent target for three years. The best that can be said for the recent numbers is that they have not gotten any lower. Annual PCE core inflation rose 0.06 percent in August to 1.30 percent. Better than a decline but still far from the Feds target, with the risks having moved, in the Fed’s own admission, back to the downside.
All in all it is hard to see haw any run of data in the next two months will justify a Fed Funds rate increase.
If the governors intend to escape the trap data dependency has built for their policy, they will have to look beyond the economic data for the logic.
Chief Market Strategist
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