Inflation Data Keeps Fed Rate Hike in Play

[00:00:00] Speaker 1: This week, attention shifts to the July inflation report. CPI coming in on Wednesday, and the PPI, get ready for all your acronyms, that's coming in on Thursday. While they are expected to show inflation still above that Fed target of 2%, the exact number could further calm calls for an interest rate hike. [00:00:17] Speaker 2: With us now is Neil Dutta. He's the head of economic research at Renaissance Macro. Neil, great to see you. I've got my latest copy of Dutta's Economic Daily here, and I want to start, if we could, by looking backward before we look forward. So let's start with the jobs report that we got last week. 23,000 jobs lost. Saw the unemployment rate tick down. Brings up this question about the break-even level. Want to get your thoughts on that. Before we get there, let's play a bit of sound here of Kevin Haas at the President's Economic Advisor talking about the break-even. Here's what he had to say. [00:00:44] Speaker 3: Labor force participation is kind of on a downward trajectory, which means that the break-even jobs number, that is, the jobs number you need so that unemployment rate doesn't go up, has gone from maybe 120,000, 130,000 a few years ago to maybe about 40,000 now. And so what it means is that what the market is used to looking at, oh, it's like a normal tread-the-water kind of jobs number if it's around 100, is no longer true. [00:01:10] Speaker 2: No longer true. The smiling countenance of Kevin Haas there talking about this. Neil, what's your reaction to that? How have you seen this evolution and sort of what worries, if any, were sparked for you from the jobs report that we got on Friday? [00:01:23] Kevin Haas: Well, I mean, I think for me as a Fed watcher, all it really does is reinforce the notion that they had to begin the year, which is at the break-even level, you know, the number of jobs you need every month to hold the unemployment rate flat, that number is going down, right? So if you look at, you know, just so far this year, we've been averaging about 50,000 to 60,000 jobs a month, and during that time, on average per month, the unemployment rate has been going down, you know, just, you know, 0.04 percent, so percentage points per month on average. So, you know, it kind of speaks to this idea that the break-even level is lower, and that just means you're going to get negative jobs numbers more often, right? Just, you know, it's like sort of a statistical artifact of that, right? I mean, if the break-even level is lower, you're going to be bobbing around the zero line more often. [00:02:20] Speaker 1: So we are expecting CPI and PPI out next week. Our chief economist for the U.S., Anna Wong, says she's expecting those to be pretty soft, not really impact, and she expects the Fed to hold rates in September. Last month, before the Fed decision, you were predicting a rate hike, and now you've said, you know, if you're going to end up hiking rates by September, might as well do it now. Given these new numbers, is that still your prediction, or do you think they're going to hold again? [00:02:45] Kevin Haas: Well, I think it's important to note that just on the face of it, the last employment report actually pushes the Fed further in the direction of hiking, not away from it. So I think that that's a bit of a misconception in the marketplace, given the bond market reaction. You know, to borrow from Janet Yellen, the unemployment rate is the single best indicator of labor market health. And what happened with the unemployment rate? It fell. It fell. So if you, you know, when you look at, you know, every few months the Fed releases their summary of economic projections, their dots plot, go in and look at what they, they don't forecast the rate of growth in non-farm perils. They look at the unemployment rate. That's the slack measure that they focus on primarily. And to the extent that it's going down, it's going to push the hawks, you know, to be even more aggressive in pushing for hikes going forward. So I don't really buy the idea that the jobs number pushes them away from anything. If anything, it pushes them towards it. Now, with respect to inflation, you know, look, we've, if you think about it, if Anna's right and you get sort of 0.2 on inflation month in and month out between now and the end of the year, she's probably right. The Fed's not going to hike. I would, I would accept that. But in order for that to happen, you're basically talking about a scenario that's had less than a 10% chance over the last three years. I mean, getting 0.2s, that's happened maybe less than 40% of the time over the last three years. And then expecting it to string along for several months in a row, the probability of that's even lower. So to me, you know, the distribution of these inflation reports has generally skewed higher in recent years. And when you look at the last number, you know, there were big declines in lodging away from home, communication services, motor vehicle insurance. In other words, the, I think the distribution was somewhat narrower in scope. That's why median inflation was somewhat higher than traditional core inflation in June. So if that unwinds, it's very easy to see, you know, maybe a 0.3. And, you know, then at that point, all bets are off. So I just think the odds still favor a hike. It's almost like if it's really, really cloudy outside, you should assume that lightning will probably strike at least once. And that's kind of how I'm looking at these meetings. I mean, you assume that every meeting between now and the end of the year is effectively a coin flip. And if you're flipping a coin that many times, it's probably going to come up hike at least once. [00:05:24] Speaker 2: Neil, can we get existential here? You mentioned, you know, long time. Should I get comfortable? Get comfortable. Okay. Long time Fed watcher. And I'm curious how you're processing the kind of new war regime when it comes to communication. So you mentioned the dot plot, some of the economic projections, all these things, which I guess have perhaps dubious longevity. I mean, I don't know sort of what that's going to look like in a year's time. But we've heard from those dissenting votes in recent days, got their take on what's happening. Heard about the incrementalism from Neil Kashkari, for instance. They, I imagine, take on more primacy. You're going to pay more attention to their comments going forward here. In the absence of what we're going to hear, in all likelihood, from the chairman, how does your job, how does Fed watching change notionally here going forward in light of what we've seen Kevin Walsh propose? [00:06:07] Kevin Haas: Well, look, I mean, I think for me, it's first, you always have to let the data drive your views of what the Fed will do. Because I think for most of the people on the committee, it's the data that ultimately drives them towards an action or not. I think what's notable is that it feels like the descents or the hawkish shift is mounting, not just from regional Fed presidents, but also from within the board of governors. I mean, you're talking about people like Lisa Cook, you know, potentially getting on board for a rate hike in September. So, you know, if the governors begin to open up to the idea of hiking, and, you know, it's going to be very difficult for Walsh to keep them at bay. So the reason why I sort of suggested, hey, you should just get out in front and hike in July, it's much better to do it when you have control than to kind of go into it kicking and screaming. So, you know, people are talking about, well, maybe he'll say something interesting at Jackson Hole. At this point, he may not have a choice but to kind of shift by Jackson Hole because everyone's already there. So does he really want to be getting out there in the September FOMC press conference explaining a decision where they all hike and he descents? I mean, that seems to be a little bit ridiculous. So it's almost like a tail wagging the dog situation. But, you know, the short answer to your question is basically it's almost unilateral disarmament from the chair. So if he's doing that, then you have to kind of overweight the views of everyone else. You either think Kevin Walsh is in control of the FOMC or you think the FOMC is in control of Kevin Walsh. And if you think the latter, that probably means that the yield curve is going to flatten as we get into the fall.