The August Employment Report Enough to Taper?

The August Employment Report was not as strong as expected, but it wasn’t terribly weak either, making the Fed’s decision to taper a bit more difficult. Still, QE can’t last forever.

Nonfarm payrolls rose by 169,000 in August, a little short of the median forecast (+180,000), but with a sharp downward revision to July, which went from +162,000 to +104,000 (remember the payroll figures are only accurate to ±90,000). State and local government, which had been a significant drag on overall economic growth in recent years, added 17,000. The film industry lost 22,000, reflecting (according to the Washington Post ) a temporary shutdown in the porn industry (hence, nonfarm payrolls should firm up a bit in September).

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The unemployment rate fell further in August, reaching its lowest level since December 2008. Most of the drop in the unemployment rate in recent years has been due to lower labor force participation, and that was the case again in August. Some of the drop in participation is due to an aging population. As the baby-boom generation moves into retirement, we should see a continued downtrend in participation. However, this would only account for a quarter to a third of the overall drop. If one focuses on the key age group, those aged 25-54, participation is lower, but not nearly as much. More importantly, the employment/population ratio continues to suggest a large amount of slack in the labor market.

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The August Employment Report is unlikely to prevent Fed policymakers from reducing the rate of asset purchases when they meet next week. However, the figures may limit the initial reduction. One should expect a modest tapering and a promise to wait a while before acting again. Officials should continue to stress that the federal funds target rate will remain low for some time. One way to amplify this emphasis would be to adjust the unemployment rate threshold (currently 6.5%) lower (say, to 6.0%). The Fed has already indicated that it expects to keep short-term rates low even after the unemployment rate hits 6.5%. However, market participants still generally view 6.5% as a “target” not a guidepost. Long-term interest rates are a series of short-term rates. So a promise to keep short-term rates low should help limit the rise in long-term rates.

© Raymond James

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