Unemployment in the United States is an important indicator of the Fed's monetary policy. The question is when the central bankers will start talking about an exit from the ultra-accommodative policy they are currently pursuing and therefore also about interest rates. For now, the Fed can wait, but for how long?
The United States added 559.000 new jobs in May, the US Bureau of Statistics reports. That's less than analysts expected (roughly 650.000). But it is a number that is more consistent with a strongly recovering economy, rather than slightly more than the originally reported 266.000 new jobs a month earlier. Unemployment has fallen from 6,1% to 5,8%.
Nowadays, more than ever, I look at the monthly labor market reports from the United States with the question: how that could influence Fed policy in the coming months? At first glance, the obvious conclusion is that there is an increasing chance that the bank will start talking about an exit from the ultra-loose policy it is currently pursuing in the coming months. Not only because unemployment is falling, but also because inflation in the United States is currently over 4%. Even with the bank's increased target rate, which was just over 2% for a while, that seems to be too much of a good thing.
Labor market does not meet requirements
The Fed will therefore indeed start discussing an exit in the coming months. But that is not to be expected in the short term. Especially because the situation on the labor market does not meet the requirements for the bank to start talking about an exit strategy.
First of all, there is the unemployment rate. That is falling, but is not yet close to the pre-corona level of 3,5%, the level that the bank considers full employment. Achieving full employment is not just one of the Fed's two statutory goals (the other being price stability). It is also a goal that is receiving more attention than in the past, as was evident from the previous meetings of the bank's interest rate committee.
Secondly, the following. Jerome Powell, chairman of the Fed, indicated several times during previous press conferences of the interest rate committee that the bank does not just look at the unemployment rate. She also wants the recovery in the labor market to reach minorities, because this will reduce increased inequality. Unemployment among Asians and Blacks (terms used in the U.S. government's monthly labor market press releases) has remained unchanged and high. For the Fed, this alone is a reason not to change the monetary rate for the time being.
Unemployment is falling, but higher
The recent report also showed that although the number of long-term unemployed (people who have been without a job for 27 weeks or more) has fallen by 431.000, it is still 2,6 million higher than before the corona pandemic. The number of Americans who want to work full-time, but have to make do with a part-time job, also remained more than 800.000 higher than before the corona pandemic.
And there are 6,6 million more Americans who want to work, but are so convinced they won't find a job that they don't even look. That is 1,6 million more than just before the corona pandemic broke out, they do not count as unemployed. In other words: the unemployment rate underestimates the actual unemployment in the US and disguises the large (and increasing) differences between population groups. These are not factors that the Fed is putting aside
Increase in inflation temporary phenomenon
There are also developments on the inflation front. It is true that inflation is too high at 4,2%, but the bank clearly indicates that it sees that increase as a temporary phenomenon, driven by statistical and one-off factors that will fade over time. Moreover, that inflation measure is not the one the Fed monitors. The bank mainly pays attention to the PCE index, excluding energy and food prices. That measure indicates that inflation was 3% in April, considerably lower – and therefore less worrying – than the consumer price index shows.
Only time will tell whether the increase in inflation is temporary or not. More concretely: this will become clear at the end of this year and in the first quarter of 2022. In the meantime, the Fed has time to assess the situation. While it is true that wages rose considerably in May, by 0,5% on a monthly basis, it remains to be seen whether this will lead to higher underlying inflation. Wages have risen mainly because labor is scarce. Scarce? But unemployment was actually high, it just said! Beats.
And yet labor is scarce, because many Americans who were laid off during the corona pandemic are still receiving a supplement to their unemployment benefits of $300 per week, paid by the federal government. For many, this means that their unemployment benefit is higher than the income they had when they were working. That supplement expires in September and in half of the states even in August, because Republican policymakers in those states refuse the supplement. The reason is that companies in their states cannot find employees due to this addition, which hinders economic recovery.
No surprises in the store
It is expected that in the coming months when that support disappears, more Americans will enter the labor market. Resulting in lower wage increases and, who knows, some upward pressure on unemployment (or at least more countervailing force for it to fall further). In other words: the inflation condition is also not met for the time being. As mentioned, it will take at least six months before we get more clarity on the question of whether the recent increase in inflation is indeed temporary or not. No surprises from the Fed are expected during that period, but more uncertainty about the bank's future policy and, in its wake, more volatility on the markets.
At the end of the year, when it slowly becomes clearer whether the increase in inflation is temporary or not, another factor comes into play: namely the changed composition of the Fed's interest rate committee. In addition to the executive board, the twelve governors of the regional central banks have a seat. Of those twelve, five have voting rights each year. One of these is the president of the regional Fed in New York, the other four votes are distributed among other eleven regional presidents according to a fixed schedule.
Pigeons and hawks
This grid shows that as of January 1, 2022, exactly 3 moderate regional presidents and one pigeon (in monetary terms, a central banker who is happy to lower interest rates or keep them low for a long time) will pass on their voting rights to one pigeon and three outspoken hawks (i.e. , central bankers who have little need to tighten monetary policy). This could prove to be very important for the course that the Fed follows in 2022, especially if it turns out that inflation has not only been driven up by temporary factors.
Finally, two comments on relevant matters, starting with one in the short term. Since the corona pandemic broke out, the American government has taken many measures to ease the pain. One of those measures was the ban on evicting people who are in rent arrears or behind on their mortgage. That ban ends this month.
Reappointment Powell or
Knowing that there are millions of Americans who still do not have a job, this could cause problems, including in the economy. Something the Fed is sensitive to, especially now that the bank is paying more attention than ever to inequality. It may also mean that many families do not fully use the money they have saved since February last year, partly due to the multiple checks they have received from the government, to spend, but to avoid being evicted.
The second issue that could come into play after the summer is whether Powell will remain Fed chairman after his term expires in early 2022. It should become clear in the coming months whether President Joe Biden will support Powell's reappointment. Any uncertainty about this could further increase uncertainty and volatility in the markets.