Friday, February 5, 2016

The Job Report in Fed Context- Or Bull-riding

Is the show run by dogma and is the phrase 'data dependency' just for show?

In some sense... to the Fed the jobs report means almost nothing.

What I mean by that is that Fed officials are now speaking to us much more in 'Fed Speak' about what they expect; The new reality is what their 'model' is telling us - and the job report simply is NOT part of their model.  

Models and tracking
So, for the jobs report to 'MEAN SOMETHING' it has to address a Fed official with a model and throw that member's model 'off track'. Let's just say if you have ever seen bull-riding, staying on a bull is about as hard as throwing a model off track. Models have huge standard errors and given the vagaries of the data a lot of things can keep an economist saying "my model is still on track," "my model is still on track,"  "my model is still on track"...when it isn't. 

Models and Ideology
Models of course are imbued with the ideology of their maker. So the model also represents that ideology and since it is believed by the model's creator it also represents the prevailing dogma of its estimator. While users will tell you that their models change and are flexible for all practical purposes that is not true. What you have is a continually re-estimated (and re-based model) undergoing some very minor changes each time it is run while the main characteristics stay in place. So incoming data really have to do something spectacular to put a model's forecast in doubt. And, since so many of these Fed members use models for their outlook... let's remember that models really never project a recession ahead of time. They won't see it coming... 

Models...and reality
I fact I think they call these things models because they are like the women on the fashion runways. The way they can wear clothes is just a way that real people simply can't. They wear this stuff on the runway then sell it to normal people who wonder how come this looks like this on me? The same can be said about economic data that is claimed to look so consistently fine within a Fed official's model, but appears quite different to the unemployed man-on-the-street. And this is not just a case of illusion...     

So as we look at the employment report, what do we see looking through the lenses of these sorts of models?

1. The unemployment rate is falling- check that fits with my tightening model
2. Average hourly earnings rose and are up 2.5% Yr/Yr - Check that fits with my labor market tightening inflation is on track Phillips curve is not a dead model - It is not dead! What? You buried it? DIG IT UP!! NOT Dead!!
3. Jobs grew again in manufacturing and the gain was in the top 10% of all changes in MFG jobs since jobs began to grow in this recovery. Check- that fits with my, 'hey this manufacturing sector is not as bad as people say' model ...go chuck the ISM.
4. The labor force participation rate rose AND the unemployment rate still dropped- Check Labor market is still really strong. The Household reports knows...Rising participation rates are the manna from heaven we have been waiting for. There is a God and he still likes economics...
5. Hours worked rose 0.4% in the month and that is real solid/strong CHECK-a-roonie
6. The service sector slowed and its puny gain this month stands in the bottom 12% of all changes in private services jobs since jobs began to grow in this recovery. Ok... Check so there is some slowing in services but still enough job growth overall to drive the unemployment rate lower. Still, consistent with my overall tightening model. 

and we could go on...but I'll stop here

Models, jobs and context
Above you see how easy it is to keep your view and to see confirmation in the monthly numbers. Some things fit more seamlessly than others...As for AHE, there is minimum wage legislation that kicks in on the first of the year requiring another batch of wage re-boots and that will bounce wages higher. Maybe the average hourly earnings gain has some regulatory fluff in it? Job growth was still centered in low wage industries...but also construction and manufacturing this month -and government employment fell. The job gains in MFG are hard to fathom, they are not present in the ISM, but there they are there in non-farm jobs, at least for now. Bad seasonal factors? Who can say? But SOMETHING here is inconsistent...     And of course there is a job growth slowdown in January even it it is not yet a multi-month slowing...there is a weak MFG ISM there was a sharp pullback in the Non MFG ISM. When we try to square the employment results with other similarly topical reports we don't get full corroboration. 

That should be another reason to not simply feed this gunk into your model. Garbage in, garbage out as they say.  

Wealth and wealth (poverty) effects
Moreover, the international signals are still weak. The dollar has been pulled to and fro and it seems to have finally sided with the notion that the rate hike in March may still be on.  Oil is slipping, stocks fell (as of this writing anyway). The market remains a dynamic if confused discounting mechanism. Ignore it or assert that it is disconnected from the real economy at your own peril. There is a massive loss in wealth taking place... IT IS REAL. As I wrote yesterday after the European Impressionist art auctions tanked- that was real. There was less wealth supporting that market and it showed. What's next? WHAT'S NEXT?? God help me for asking but is it...will it be real estate? Please say NO!

Still in the eye of the storm and it is a - GLOBAL- not just International storm
One problem we may have is being still in the eye of the storm making the current data reports too-recently affected by events to have fully reacted to them. Whatever is the case here, it is clear that there is a lot of confusion. The Fed for now HAS NO ASSESSMENT of risk. We all are waiting for the Yellen monetary policy testimonies (Formerly Humphrey-Hawkins) before Congress to see if the Fed's message will change. For the reasons I express above I think it may not have changed by much. The Fed language may be a bit more equivocal, but in all cases the Fed remains accommodative to a rate hike in March. The Fed has been careful not to take any action that might push that off. Perish the thought...

Dogma IS what DOGMA DOES
And that is why I continue to see Fed policy as based on DOGMA. There is no reason to stick with a March rate hike. A hike has not been promised. The economy is out of sorts. There may still be legacy strength in the job market even as it cools...Jobs are a lagging, not a leading, variable. Challenger layoffs are up to the 10th highest in December in the last 21 years after ranking much lower in earlier months.  Jobless claims are drifting higher, the ISMs both are weak and weakening stocks are volatile and lower overall. There are lots of reason to be circumspect. What is so sacrosanct about getting four rate hikes in this year? Really? Keeping that door open in the wake of this turmoil is making the Fed look more and more like the show is run by dogma and that statements of being data-dependent are just for show.     

We will come to know the jobs report better as more months reveal themselves. It is reasonable to think that there has been some shift. The ISMs are saying so. January was ambiguous- something for everybody. That does not mean we are not at a point of inflection or something more severe.


I hope you find the above discussion useful. It is my impression that it is more useful at this point than a PowerPoint full of slides about trends that may be shifting.


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