Friendly Developments for Stocks

The stock market should continue to be buoyed by the Fed-friendly implications of the April Employment Report this week.  And, in a subtle way, it should continue to be buoyed by Fed Chair Powell's comments, as well.  Powell appears reluctant to harm economic growth to fight inflation, which is a positive for the market's longer-term outlook.

In his post-FOMC news conference, Powell discussed what might bring down inflation without a recession.  He mentioned the lagged methodology by which Owners' Equivalent Rent (OER)  is calculated, saying that OER has not caught up to the flattening seen in private surveys.  His comment suggests that he sees the slow progress toward achieving the Fed's 2% inflation target more as technical rather than a fundamental problem.  Thus, he seems reluctant to aim at economic growth to fight inflation --  a positive for stocks.  Although he did not dismiss the Q124 high inflation prints as resulting from temporary factors, they, in fact, did reflect special factors, such as start-of-year price hikes and lagged pass-through of earlier price increases.  They overstated the underlying trend.  He probably realizes this, but had already rejected the idea of "exing-out" undesirable parts of a figure in past news conferences. 

The April Employment Report is not an all-clear for the Fed, however, so the markets should remain focused on upcoming US economic data for clues on the course of monetary policy.  To be sure, the Report points to continued modest economic growth in Q224.  From one measure, Total Hours Worked (THW) suggest about 2.0% Real GDP Growth for Q224, not that much different from the 1.6% in Q124.  THW stands 1.4% (annualized) above the Q124 average, just a little higher than the 0.9% (q/q, saar) in Q124.   From another measure, the uptick in the Unemployment Rate to 3.9% argues for a sub-2.0% GDP increase in Q224, as the Rate exceeds the 3.8% Q124 average and thus suggests below-trend growth.  The downtick in the Nonfarm Workweek suggests the post-winter bounce-back already has abated.  All these implications suggest the financial markets don't have to work as hard as otherwise to achieve non-inflationary growth.

The slowdown in Average Hourly Earnings to 0.2% m/m is good news for the Fed's anti-inflation fight.  However, it is too soon to give an all-clear for wage inflation, as the slowdown was not widespread.  Only 5 of the 13 sectors had wage increases of 0.2% or less.  The 3-month averages of about half of the sectors were 0.3% or less, 

Unfriendly Fed and Labor Cost Data This Week?

The stock market may continue trying to regain the ground lost after Fed Chair Powell pulled back the likelihood of near-term rate cuts, helped by strong corporate earnings.  However, the market risks facing an unfriendly FOMC Meeting (although with the possibility of one saving grace) and troublesome labor cost data this week.

The Fed is not likely to change its new, somewhat hawkish stance at this week's FOMC Meeting, despite the ironically soft 1.6% Q124 Real GDP print.  Even though the low print is in line with the initial Fed projections for 2024 -- making their upward revision look foolish -- the slow growth did not prevent inflation from speeding up last quarter.  Together, the slow growth and high inflation should keep Fed policy steady, probably through the elections.  Powell should reiterate that the Fed wants to see more months of evidence to determine whether inflation is on a downtrend.  To be sure, all this should be old news.  The market may like his comments if, as is likely, he leaves the possibility of rate cuts at some point on the table.

This week's evidence on labor costs risks being unfriendly for the Fed.  All three of the major measures -- Average Hourly Earnings, Employment Cost Index and Compensation/Hour -- will be released and may exceed consensus in some cases.

Consensus looks for the Q124 Employment Cost Index (ECI) to speed up to 1.0% (q/q) from 0.9% in Q423.  Supporting this estimate, a curious inverse relationship with Average Hourly Earnings (AHE) in the past couple of years suggests ECI could match or exceed the Q423 pace -- when AHE slowed, ECI sped up and vice versa (see table below).  It is not clear why this inverse relationship holds, but it represents an upside risk.  ECI includes forms or compensation that AHE does not, such as bonus payments and health insurance premiums paid by employers.  These could boost the ECI in Q1 of a year. 

Consensus also looks for +0.3% m/m in April AHE.  This would be a favorable print.  However, last year, AHE sped up in April after low prints in February and March (as was the case this year too).  So, there is upside risk to the consensus estimate, too.

Consensus expects 4.0% (q/q, saar) for Q124 Compensation/Hour.   The risk is for a print closer to  5.0%, based on Personal Income and THW data.  The market and Fed may take a cautious view of a high print, however, since Compensation/Hour tends to be volatile on a quarterly basis.  Last year,  it varied between 3.6% and 6.5% among the four quarters, averaging 5.2%.

            (q/q percent change)

            AHE            ECI

Q124   0.97                 na

Q423   1.02                0.9

Q323    0.8                1.1    

Q223    1.2                1.0    

Q123    0.8                1.2

Q422    1.2                1.1

Q322    1.1                1.2

The low 1.6% Q124 Real GDP pace is not entirely surprising, despite the 2+% estimates of the Atlanta Fed model and consensus estimates.  The fact that the Unemployment Rate rose in Q124 (to 3.8% from 3.7%)  hinted at a below-trend pace of Real GDP.  Traditional models relate the direction of change in the Unemployment Rate inversely to GDP Growth less trend.  Also, the fact that Total Hours Worked rose about 1.0% (q/q, saar) means that Productivity likely rose only slightly in the quarter (below the 2.0% consensus estimate).  Conceivably, bad winter weather may have been partly responsible for holding down output per worker and thus the low GDP pace.  The shift in jobs to low-productivity health care and government didn't help either.

There already were signs of a post-winter speedup in economic activity in March, particularly the rebound in the Nonfarm Workweek and Total Hours Worked (THW).  THW in March were 2.0% (annualized) above the Q124 average, a strong take-off point.  However, this week's April Employment Report is expected to show that this bounce-back is moderating.  Consensus looks for a slowdown in Nonfarm Payrolls to +210k m/m from +303k in March.  The estimate is lower than the +276k m/m Q124 average.   A steady 34.4 Hour Nonfarm Workweek and 3.7% Unemployment Rate, as consensus expects, also would argue for a moderation in a post-winter bounce-back.  Market friendly prints for Payrolls, Unemployment Rate and Workweek could outweigh a small speedup in AHE.

Coming to Grips With Powell's Comments

The stock market may continue to be weighed down this week as it comes to grips with Fed Chair Powell's comments.  He was disappointed in seeing three consecutive months of high inflation prints, ignoring the idiosyncratic parts of the March CPI.   As a result, the Fed's inflation target gets higher priority, requiring the need to delay rate cuts.

By also intending to keep the funds rate steady, the Fed appears to be relying on tighter financial market conditions to fight inflation.  Higher yields, weaker stocks, and a stronger dollar are meant to restrain economic activity, thereby holding down inflation.  Consequently, strong data are bad for the markets (implying more restraint is needed), while weak data are good (implying less restraint is needed) from this perspective.  In this regard, Thursday's release of Q124 Real GDP could present a problem.  The Atlanta Fed model's latest estimate is 2.9%, while consensus is 2.1%.  Both are above the Fed's 1.7-2.0% estimate of longer-run growth. 

Whether a weaker economy is needed may depend on whether inflation slows by itself.  A slowdown in the inflation trend would mean the Fed and markets don't have to restrain economic growth.  Steady Fed policy in the context of moderate economic growth and slowing inflation would again be a positive for stocks.

A slowdown in inflation by itself is conceivable.  The industry-specific reasons for the high CPI in March could ease if not reverse somewhat in coming months.  Housing rent could slow as well, as it catches up to the softening seen in private surveys.  Indeed, there is a chance for a surprise low inflation print this week.  Consensus expects a still-high +0.3% m/m in both Total and Core PCE Deflator for March.  The estimate appears reasonable and would not likely be a positive for the market.  But, a 0.2% print for Core can't be ruled out.

There are already tentative signs that the post-winter bounce in economic activity may be easing.  /1/ Initial Unemployment Claims have stopped falling while Continuing turned up a bit.  If they stay at the latest levels, they would suggest a slowdown in April Payrolls.   /2/ The Phil Fed Leading Index of Capital Spending edged down in April.  This should be seen in Durable Goods Orders within the next few months although this week's release for March may be too early.   /3/ Commodity prices possibly may have peaked.  Besides oil, some of the major commodity price indexes are off their recent highs. 

That Powell continues to push back the timing of rate cuts is not surprising.   Economic forecasts, as well as the theoretical idea that real interest rates will rise as inflation expectations fall, are highly tentative and bound to fail when the markets build in future policy.  Higher stocks, lower long-term yields and weaker dollar stemming from projected Fed rate cuts work to boost economic growth, thereby undermining the forecast.  Perhaps the Fed forecasted rate cuts to placate Congress and the Administration in this Presidential election year.  The idea may have been that promising rates cut in the near future would allow the Fed to hold policy steady through the election without being criticized for keeping policy too tight.   However, the built-in failure of this forward-announcing policy approach risks damaging the Fed's credibility.

 

 

The March CPI and Fed Policy

The stock market will likely shift its focus to the start of Q124 corporate earnings releases (which are likely to be strong and a market positive), as the Middle East situation appears to be stabilizing.  Oil prices will be an important monitor of the "temperature" in the region.  A decline would signal an easing in the region's tensions -- a positive for stocks.  Oil prices would need to stay high for awhile to have a significant impact on the US economy -- lifting inflation and hurting growth.   So, the Fed should also just watch the situation and not react to it.  Away from the Mideast, the Fed should think twice before changing policy intentions as a result of  the high March CPI.  The high print can be attributed to factors that are independent of aggregate demand or monetary policy.

The CPI measures price changes that could reflect inflationary pressures and/or relative price changes.  The latter results from factors specific to the demand/supply of an item and not an issue for monetary policy.   The culprits behind the higher-than-consensus 0.4% m/m increase in the Core CPI -- Motor Vehicle Insurance and Motor Vehicle Repair -- could be such industry-specific relative price changes.  If they had increased at the same rate as their prior 3-month averages, the Core CPI would have printed the consensus 0.3%.  If they were unchanged in March, the Core would have printed 0.2%. 

According to news stories, "extreme weather, driving habits and high repair costs" have been behind the sharp increase in auto insurance rates.  Motor repair costs have soared because /1/ modern cars are more complex, /2/ ongoing supply chain issues, /3/ shortages of trained technicians, and /4/ older cars need more repair work, made more important by the shift to used car sales.  These reasons suggest that at least some of the recently large increases in these components can be considered a result of factors specific to these industries. 

The jumps in Motor Vehicle Insurance and Repair in March could be one-offs and thus noise.  From a wider perspective, there always will be noise in the measurement of the CPI.  The real problem with the March Core CPI is that it would have been above the Fed's desired pace of 0.2% m/m even if these two components had risen in line with their recent trends.  

The Fed's goal is presumably to get noisy elements to push the CPI around a 0.2% m/m trend-line rather than 0.3%.  It's encouraging in this regard that more than half of the CPI components printed 0.2% or less in March.  However, it is still problematic that the largest CPI component, Owners' Equivalent Rent (OER), is trending 0.4%.  It may have to slow to 0.2-0.3% to lower the Core CPI trend to 0.2%.  This may happen yet, particularly if the CPI survey finally picks up the flattening in rent seen in private surveys.

There are two ironic aspects of OER: /1/ It is an imputed price, based on the CPI rent survey.  It measures what homeowners would pay if they rented their home.  Homeowners don't actually pay it.  This may be the reason why Fed Chair Powell highlights Core Inflation Less Shelter.  Why should the Fed restrain the economy for a price nobody pays?  /2/ Fed tightening can shift housing demand from ownership to renting, thereby pushing up rents.  So, it is questionable that Fed policy can do much to slow OER short of weakening the overall economy.  

With all the many specific factors impacting the components of the CPI and the largest component, OER, being more theoretical than real, Fed policy may do best by focusing on the broadest factor impacting prices -- labor costs.  So far, they appear to be in line with the Fed's inflation goal, taking account of productivity growth.  They argue for steady monetary policy at this point.  And, they keep open the door for Fed rate cuts if economic growth weakens.  

The Atlanta Fed model's latest estimate of 2.4% for Q124 Real GDP Growth is slower than the 3.4% Q423 pace -- which is a positive for the Fed but not weak enough to warrant rate cuts.  The questions now are the strength and duration of a post-winter bounce in Q224.  At this point, there is not enough evidence  to answer these questions.  So, Fed rate cuts remain hypothetical.

A Temporary Breather For Stocks

The stock market will likely continue to contend with higher oil prices and longer-term Treasury yields this week.  But, the rally could rekindle with the earnings season.

To some extent, the higher oil prices and yields are not entirely bad for stocks if, as is likely, a post-winter speedup in economic activity is a factor behind them.  They act like "built-in stabilizers" to restrain the latter, allowing the Fed to maintain steady policy through a possibly temporary bounce in the economy.  This week's US macro-economic data should keep policymakers in a wait-and-see position as well as keeping alive expectations of rate cuts ahead.  Meanwhile, the macro evidence suggest a strong Q124 corporate earnings season this month.

 March CPI

The consensus estimate of +0.3% m/m for both Total and Core CPI for March seems reasonable.  Both would slow from February's 0.4% pace.  The y/y would increase to 3.4% from 3.2% for Total and be steady at 3.8% for Core.   Oil-related energy prices (gasoline and heating oil) should slow, helping to hold down the Total.  (Seasonal factors offset most of the increase seen in gasoline prices at the pump.  So far, this offset is the case for April, as well.)  The Core CPI should not be boosted as much by airfares as in February, since seasonal factors provide less of a lift in March than they did then.  Most other components should be similar to their recent trends.  A slowdown in Owners' Equivalent Rent from 0.4% may be needed to push down the Core further.    

March Employment Report

The March Employment Report had more benign than worrisome components from the Fed's perspective.  Although Payrolls were strong, about half the increase was in non-economic sectors -- government and health care.  The sectors susceptible to monetary policy show the jobs slowdown desired by the Fed.  Nevertheless, the Nonfarm Workweek recovered back to trend, thereby pointing to a post-winter speedup in economic growth going into the Spring.   A steady Workweek in coming months would suggest the speedup is temporary.  

Other parts of the Report were benign.  The dip in the Unemployment Rate to 3.8% from 3.9% kept it above the 3.7% November-January level.  So, it still shows that labor market slack has increased.  This is also seen in the steady 7.3% U-6 Rate -- a broader measure of the labor market than the Unemployment Rate.  Perhaps thanks to the easier labor market conditions, wage inflation remains contained.  The 0.3% m/m increase in Average Hourly Earnings equals the 2023 average and Q124 average.  It is consistent with the Fed's 2% price inflation target, taking account of productivity growth. 

Q124 Corporate Earnings

Market participants look for about +3.0% y/y in S&P  500 corporate earnings for Q124, after about +8.0% in Q423.  The macroeconomic evidence suggest the risk is for a larger-than-expected gain.  Real GDP sped up on a y/y basis in Q124, oil prices reversed their decline, and economic activity abroad appears to have picked up while the trade-weighted dollar was flat.  Profit margins may have narrowed, however, as the Core CPI rose by less than Average Hourly Earnings.

                                                                                                                                     Markit
                                                                                                                                          Eurozone                        Real GDP     Oil Prices        Trade-Weighted Dollar    AHE     Core CPI    PMI  
                [                                y/y percent change                                                   ]    (level) 

Q122            3.5                  63.4                +2.7                              5.4           6.4               57.8  

Q222            1.8                  60.9                +5.3                              5.3           6.0               53.9

Q322            1.9                  31.9                +9.0                              5.1           6.3               49.3

Q422            0.9                    6.7                +8.9                              4.9           6.0               47.1    

 

Q123            1.9                -19.5                 +3.0                              4.5           5.5               47.9 

Q223            2.4                -32.0                 +0.5                              4.4           5.2               44.7

Q323            2.9                -12.0                 -2.5                               4.3           4.4               43.2

Q423            3.1                -12.0                 -2.5                               4.3           3.9               43.8

 

Q124            3.2                 14.0                   0.0                               4.3           3.8               46.3                                              

                                                                           

* Based on the Atlanta Fed Model's latest projection of 2.5% (q/q, saar).

 

More Favorable US Economic Data Expected This Week, But...

The stock market should continue to be helped this week by macroeconomic data if consensus estimates are correct.  In particular, estimates of the key components of the March Employment Report point to slower economic growth and inflation.   They support the Fed's projection of rate cuts later this year.  However, there are some market-negative risks to the estimates.  And, even if the estimates are correct, they may not be soft enough for the Fed to commit itself to a near-term cut.  

Consensus looks for a slowdown in Nonfarm Payrolls to about +200k m/m in March from +275k in February.  The jobs slowdown would be in the right direction, but still solid.  Consensus-like prints of the other important data in the Employment Report should allay concern about the jobs' strength.  The Unemployment Rate is seen staying at 3.9% -- the high end of its recent range -- and Average Hourly Earnings (AHE) is seen contained at 0.3% m/m (although up from the low 0.1% in February).  A 0.3% print for AHE would equal trend and be in line with the Fed's 2% price inflation target, taking account of productivity growth. 

The Claims data support an expectation of a smaller Payroll gain than January's +275k  Although Initial fell a bit in March, indicating fewer layoffs, Continuing rose, suggesting even less hiring.  While there is no reliable evidence regarding the Unemployment Rate or AHE, some unwinding of the big February moves is conceivable -- a potentially negative risk for the market.  A dip in the Unemployment Rate and a speedup in AHE to an above-consensus print are conceivable after their big moves in February.  They could trigger a negative market reaction to the Report.  But, the reaction could be short-lived, as the unfavorable prints should probably be viewed as partly noise.  And, a modest unwinding of their February moves would not significantly change the story of slower growth and inflation.  A dip to 3.8% would keep the Unemployment Rate above its prior 3-month average.  Any print below 0.5% for AHE should lower the y/y. 

Last week's report on the February PCE Deflator kept alive the idea of Fed rate cuts ahead, as. the 0.3% m/m Core PCE Deflator was encouraging in several respects.  The un-rounded increase was even lower at 0.26%.  And, the Market-Based Core PCE Deflator rose only 0.2%.  Over the first two months of the year, both Total and Core are running below last year's pace.

Rising commodity prices remain a potential problem for the inflation outlook.  Higher commodity prices can feed through to the CPI as they are passed through to the consumer.  Some of the recent increase in these prices is seasonal, however.  For example, retail gasoline prices jumped 6.4% m/m in March but only 1.8% after seasonal adjustment.   However, another factor behind their increase could be higher demand either domestically or abroad, perhaps reflecting a post-winter bounce-back in economic activity.  Economic activity appears to have improved in China in March.  Stronger growth into the Spring would likely keep the Fed from easing. 

 

Key Data Should Help Stocks This Week

The stock market should continue to climb this week, as the key February PCE Deflator is likely to better conform to the Fed's anti-inflation goal than the CPI.  Along with a modest increase in consumer spending that month, it should encourage market expectations that the Fed will follow through with its rate cut forecast at some point this year.  

Consensus looks for +0.4% m/m Total PCE Deflator and +0.3% Core, the latter being slightly lower than the 0.4% print for the Core CPI.  The risk is that Total and Core PCE Deflator come in below consensus.  The y/y should tick up for Total and tick down for Core, based on the consensus estimates and assuming no revisions to prior months.  The latter is possible, though.

Consensus expects a 0.4% m/m increase in Consumer Spending, after a 0.2% increase in January.  However,  there should be a downward revision to January Consumer Spending, based on the large downward revisions to January Retail Sales and Payroll Growth.  So, even with a February speedup, the data should suggest a slowdown in Consumer Spending in Q124 from 3.0% (q/q, saar) in Q423. 

Fed Chair Powell pointed out at his news conference that last year's path of inflation would suggest the high January-February CPI prints were "bumps" on the road to subdued inflation.  They were high in 2023 too and were followed by soft prints for the rest of the year.  In terms of the PCE Deflator, the m/m change in both Total and Core averaged 0.2% m/m from March through December after 0.5% on average in January-February.  Remarkably, these measures of inflation was close to the Fed's target in all but the first two months of 2023!  The annualized inflation rate for Total was 2.1% over the last 10 months of the year while the rate for Core was 2.5%.  For the full year, the inflation rate was 2.6% for Total and 2.9% for Core.

While a similar pattern is desirable for 2024, note that it could be difficult to bring down the y/y change from its February level for the rest of the year.   Regarding the 2023 pattern, it is encouraging that the PCE Deflator rose by less in January 2024 than in January 2023.   Consensus for February 2024 is slightly higher for Total and slightly lower for Core than last year, but the risk is that both will be below last year's prints.  .So, perhaps Total and Core Inflation will continue to be softer in the last ten months of 2024 than last year and hit the Fed's target?.

However, there are some potential problems.  First, softer inflation prints will likely require a slowdown in Owners' Equivalent Rent from the +0.5% m/m 2023 average.  This was not the case for the January-February 2024 average.  And, the speedup in Primary Rent in the February 2024 CPI was not a good sign. Second, commodity prices have to be subdued.  The recent run-up in oil prices is concerning in this regard.  It could filter through to airfares and other components of the Core CPI and PCE Deflator.

This Week's FOMC Meeting

The stock market will likely take this week's FOMC Meeting in stride, as the Fed's economic and policy outlook should not change fundamentally. 

The FOMC Central Tendency Forecasts still should expect slower growth and inflation in 2024 and two-three rate cuts.  Although recent data have been somewhat problematic with regard to this outlook, some of the difficulty may be temporary and, more importantly, it is too soon in the year for the Fed to react significantly to them.  In addition, lifting the inflation forecast could have adverse effects on its anti-inflation fight, as discussed below.  In any case, it is not clear whether the Fed's economic outlook for 2024 will work out or not.  This uncertainty should dampen any market reaction to the Fed's forecast. 

Evidence on the real-side of the economy so far is not out of line with the Fed's Central Tendency Forecast for 2024 made in December.  The Atlanta Fed model's forecast of 2.3% for the Q124 Real GDP is close to the 1.7% high end of the Central Tendency Forecast, while the 3.9% February Unemployment Rate is at the low end of the Forecast.  At this point, the Fed's 2024 forecasts of Real GDP Growth and the Unemployment Rate look attainable.  However, the markets still can't be certain this will be the case.  Indeed, there are signs of faster economic growth from Unemployment Claims, the Phil Fed Leading Index of Capital Spending, and commodity prices.  A weather-related bounce-back into the Spring, particularly in Retail Sales, is possible.  And, fiscal stimulus remains in effect.

Evidence on inflation has not been as soft as desired.  But, some of the high prints for the CPI and PPI could have resulted from one-off start-of-year price hikes.  And, the y/y increase in the Fed's favored Core PCE Deflator Less Shelter remained close to the Fed's 2% target, at 2.2%.  It will be important to see if wage inflation is contained ahead.  Higher unemployment helps, but statutory increases in the Minimum Wage work against it.  A slowdown in housing rent also is critical.  Although Owners' Equivalent Rent fell back to 0.4% m/m in February from January's 0.6%, it is somewhat disconcerting that Primary Rent sped up.  So, it's not clear that the Fed's inflation outlook will work out.  On a positive note, longer-term inflation expectations so far in check, according to the University of Michigan Consumer Sentiment Survey

Aside from the data, there could be a couple of problems for the Fed if it raises its inflation forecast.  They could make its anti-inflation fight more difficult to win.  /1/ Its rationale for cutting rates this year -- that keeping rates steady in the face of falling inflation would raise real interest rates -- could be undermined.  Steady rates with higher inflation would lower real rates -- and boost economic activity.  /2/ It could lift inflation expectations, thereby exacerbating the risk of a wage-price spiral.  These are reasons for the Fed not to raise its inflation forecast at this time.

Fed Chair Powell has indicated patience in achieving the Fed's goal and that a sense inflation is moving in the right direction may be enough to allow for a rate cut.  He may emphasize the need to see weaker economic growth to be comfortable with cutting rates.  Declining commodity prices and bond yields would provide supportive evidence.  They are not happening yet, but important to watch for.

 

Inflation Next

The stock market should take Tuesday's release of the February CPI in stride if consensus estimates print, but the latter can't be taken for granted.  A consensus-like print would likely translate into a smaller increase in the PCE Deflator.  In the background, Powell's testimony last week and the February Employment Report keep open the door for Fed rate cuts by mid year -- a positive for stocks. 

The consensus estimates of the February CPI (+0.4% m/m Total, +0.3% Core) look reasonable, but they may require Owners' Equivalent Rent (OER) falling back to +0.4% from the extraordinary +0.6% in January and most other components flattening.  There is upside risk to Core if less favorable prints are the case.  Indeed, last year, the Core CPI sped up in February after a high January increase.  A component that contributed to the high February Core then was Airfares.  This year, a reduction in the fuel surcharge tax could hold it down.  The y/y for Core CPI should fall somewhat from 3.9% in January. 

The February Employment Report is Fed-friendly and could encourage officials to think of a possible rate cut by mid year.  Nonetheless, the latter will probably require additional evidence that economic growth is slowing and inflation trending down.  The increase in Continuing Unemployment Insurance Claims over the past two weeks supports this possibility.

On its surface, the +275k m/m increase in February Nonfarm Payrolls is stronger than desired by the Fed.  It is well above the 100k area that would clearly show a softening labor market and exceeds the +212k m/m Q423 average.  But, more than half of the February Payroll strength resulted from large gains in non-economic sectors, such as health care and government.  Some of the strength also might reflect one-off rebounds from adverse weather effects in January.  A weather rebound also could explain the bounce-back in the Nonfarm Workweek to 34.3 Hours from an upward-revised 34.2 Hours in January (was 34.1 Hours).  The Workweek in both months remain below the earlier 34.4 trend and still suggest softer demand for labor.  The large downward revision to +229k from +353k in January Payrolls confirms that measurement error was largely responsible for the surprising initial print.

The Household Survey data tend to be less affected by weather than Establishment Survey data.  So, the decline in Civilian Employment -- the 3rd m/m decline in a row -- offers reasonably significant evidence of a weakening labor market.  The latter is reflected in the jump in the Unemployment Rate to 3.9% -- a good move from the Fed's perspective.

A softer labor market may be one reason for the low +0.1% m/m increase in Average Hourly Earnings (AHE) in February, after a downward-revised +0.5% in January (was +0.6%).  The low February print alternatively may be just an offset to the January jump, with the 2-month average equaling trend.  This would not be a bad result.  The 0.3% m/m 3-month average of AHE is consistent with the Fed's 2% price inflation target, taking account of productivity growth.

 

 

 

 

Powell and Employment Report Should Help Stocks This Week

The stock market is likely to be buoyed by Fed Chair Powell's Semi-Annual Monetary Policy Testimony (Wednesday -- House, Thursday- Senate) and key US economic data.  Powell should reiterate the message from the last FOMC Meeting -- that economic growth is strong; inflation is expected to continue to slow;  rate cuts are still on the table, but the timing is uncertain.  The February Employment Report is expected to pull back from the surprising surges in Payrolls and Average Hourly Earnings seen in the January Report.

The Fed's Semi-Annual Monetary Policy Testimony is meant to reflect the collective view of Fed officials.  This view is found in the latest FOMC Statement, issued at the January FOMC Meeting.  Its depiction of the economy highlighted economic activity "expanding at a solid pace," a moderate but still strong pace of job creation, a low unemployment rate, and slower but still high inflation.  This macroeconomic background is a positive for the stock market.  It points to further corporate earnings gains and steady to easier Fed policy.

Powell should maintain the Fed's forecast of rate cuts in 2024, but say that a near-term cut is not likely,  as he did at the post-FOMC meeting news conference.  As said in the Statement, the FOMC will need to have "greater confidence that inflation is moving sustainably toward 2 percent" before rate cuts will be appropriate.  Recent speeches by Fed officials have reiterated this point.   Nevertheless, stocks (and Congress) should like that the Fed still retains the possibility of rate cuts ahead.  This possibility reduces the downside risk to the economic outlook. 

Consensus estimates of the key elements of the February Employment Report support the Fed's outlook.  Nonfarm Payrolls are expected to slow to a still-strong +200k m/m from the surprising +353k in January.  A steady 3.7% Unemployment Rate is seen.  Average Hourly Earnings (AHE) are expected to slow to 0.3% m/m from 0.6% in January.  And, the Nonfarm Workweek is seen moving up to a still-low 34.3 Hours from the outlandishly low 34.1 Hours in January.  Most interesting will be if the unusual prints of the January Report are revised away -- lowering the January Payroll and AHE prints and raising the Workweek print.  

Evidence supports the expectation of a slowdown in February Payrolls.  The Unemployment Claims data moved up in the month.  The Employment Component of the Mfg ISM fell.  And, the lower Workweek in January argues for softer job growth in February.  Moreover, the extremity of the January prints begs the question whether there was a measurement problem that will be cleared up in the revision or reversed in February.

Meanwhile, the Atlanta and NY Fed models now project 2.1-2.2% (q/q, saar) for Q124 Real GDP Growth, revised down sharply from 3.0-3.2% as a result of last week's data releases.  The latest estimated pace is slightly above the Fed's 1.7-2.0% long-run trend estimate and its December Central Tendency Projection of 1.2-1.7% for 2024.  The model estimates' downward revisions nevertheless should be welcome news for the Fed, as they show an economy moving toward its goal.  The model estimates still suggest strong productivity growth in the quarter, based on the decline in Total Hours Worked in January.  

 

Caution Ahead, But A Positive Macroeconomic Shift?

The stock market could trade cautiously this week as it faces the likelihood of a high January PCE Deflator and the start of a new set of monthly data.  However, last week's surge on Nvidia's earnings report underscores a potential macroeconomic shift that could be a big positive for stocks -- a ratcheting up in the productivity trend.  It would not only boost profits, but allow for higher real wages and lower inflation. 

Besides the potential for AI to lift productivity, the spate of corporate layoff announcements suggests that companies already have begun improving efficiency.  After being overly aggressive hiring after the pandemic, many corporations appear to be focusing on cutting costs.  This is another way of saying they are boosting productivity.  From a macroeconomic perspective, eliminating jobs boosts the pool of available workers, relieving pressure in the labor market.  In particular, it allows for a shift of workers toward areas favored by the Administration, such as alternative energy, EVs, re-shored businesses, etc., without putting large upward pressure on wages. 

Cost-cutting could be a factor behind the speedup in productivity growth last year.  Nonfarm Productivity rose 2.7% over the four quarters of 2023, much better than the -2.0% over 2022 and the +1.0% long-run trend assumed by the Fed.  The higher productivity growth explains how 2023 Real GDP Growth could substantially exceed the Fed's estimated long-run trend of economic growth without pushing down the Unemployment Rate significantly.  The question is whether the higher productivity pace will continue.

It is likely too soon for the Fed to raise its estimate of long-run Real GDP Growth from 1.7-2.0%, as it probably needs to see more evidence of persistently high productivity.  But whether the Fed raises it long-run GDP estimate is something to look for in the revised Central Tendency Forecasts released at the March 19-20 FOMC Meeting.   An upward revision would offset the inflationary implications of higher estimates for 2024 Real GDP Growth, which are likely given the strong start to the year.  The Fed can cite a productivity-led improvement in trend-growth as a reason to cut rates despite stronger economic growth than had been assumed earlier.

The consensus estimate of the January PCE Deflator (+0.3% m/m Total, +0.4% Core) reflects the same start-of-year price hikes seen in the CPI.  Indeed, the risk is that the Deflator may print higher than the consensus estimate.  While there may be knee-jerk selling on the print, it would be an overreaction, since these price hikes are not likely to persist.  Consensus also looks for an uptick in the Mfg ISM to 49.5 in February from 49.1 in January.  Stronger economic data should be less of a problem for the markets if higher productivity is helping to achieve this strength.

Marking Time and Consolidation

The stock market is likely to mark time if not consolidate recent gains this week, as there are few US economic data releases and the to-be-released FOMC Minutes are not likely to change consensus expectations for Fed policy.  Many of the important January economic data reported so far have been jostled  by start-of-year effects and weather.  These factors could unwind in the next set of data, but this won't be known for another couple of weeks or more.

Currently, the data point to moderately strong economic growth and sticky inflation.  The latest Atlanta Fed and NY Fed models project 2.8-2.9% (q/q, saar) for Q124 Real GDP Growth, based on data released so far.  This is down from the prior 3.5% projections, but they remain above the 1.7-1.9% Fed Central Tendency forecast for all of 2024.  The latter is still achievable if upcoming data are soft.  Indeed, the model projections are high relative to the weakness seen in Total Hours Worked in January.  A slowdown in Payroll growth looks likely at this point, as Continuing Unemployment Claims are above their level in the January Payroll Survey Week.  They have to stay high for another two weeks to get to the February Survey Week.  In contrast, some bounce-back in Retail Sales is likely in February, as the weather improved. 

The January CPI and PPI came in high, but much of the surge appeared to reflect start-of-year price hikes.  (Both the downside and upside risks mentioned in last week's blog showed up among the CPI components, but the upside risks dominated.)   The start-of-year price hikes most likely will prove to be one-off.  However, wage inflation and housing rent need to slow to bring inflation down permanently.  

The next Employment Report will show whether the jump in Average Hourly Earnings (AHE) in January was a fluke.  If AHE does not slow sufficiently, Fed rhetoric may become less dovish.  

Housing rent in the CPI, especially Owners' Equivalent Rent (OER), has not yet softened as much as rent measures seen in private surveys.  Indeed, OER sped up unexpectedly in January.   The speedup could have been just catch-up after a below-trend increase in December.  Even if it slows back to trend in February, the 0.4-0.5% m/m trend is still too high.  

There is less than meets the eye in OER, however, even though it is heavily weighted in the CPI.  OER is a phantom price, inasmuch homeowners don't pay it.  It is the imputed price of their use of homes and is calculated from a subset of the CPI rent sample.  In other words, it is the rent a homeowner would pay if renting the house.  Fed Chair Powell acknowledges its artificiality by emphasizing Core Inflation Less Shelter.   This inflation measure has been running in line with the Fed's 2% target.  It rose 0.2% m/m in each of the past three months and was up 2.2% y/y in January.  It should dampen market concerns that the Fed will turn hawkish. 

A "Powell Put" Supports Stocks

The stock market should continue to climb this week, helped by economic data expected to show benign inflation and slower growth.  They would likely be viewed as keeping rate cuts on the table in the Fed's outlook.  Moreover, although the market was disappointed initially by Fed Chair Powell's dismissal of a rate cut at the March FOMC Meeting, his and other Fed officials' comments that rate cuts at some point are still possible constitute a strong pro-growth stance that supports stocks.

The Fed's view of rate cuts ahead can be viewed as a "Powell put" -- the Fed will ease if there are signs of weaker economic growth or inflation.  It tells the stock market to downplay signs of economic weakness, since the Fed will respond.  It essentially eliminates a negative "tail risk" regarding the economic outlook.

To be sure, the Fed's Central Tendency Forecast of rate cuts in 2024 appeared to be tied to projections of sub-2.0% Real GDP Growth, higher Unemployment Rate and lower inflation.   The first two projections so far are not working out.  The Atlanta Fed and NY Fed nowcast models project 3.0-4.0% Real GDP Growth in Q124, based on data released so far.  And, the Unemployment Rate was steady in January.  There is tentative evidence, however, that the economy's strength may soften in February.  Both Initial and Continuing Unemployment Claims are above their January averages in the latest week.

The Fed's dovish stance in the face of strong data raise questions about its motivation.  The Fed's explanation is that real interest rates will rise if nominal rates are steady and inflation expectations fall.  Higher real rates will slow the economy.  The problem with this explanation is that inflation expectations are not reliably measured.  A more reliable way on which to base policy would be to see if economic growth, in fact, slows.  This result is probably what will truly prompt the Fed to cut rates.  Powell and other Fed officials indirectly suggest this is the case when they say they are not yet convinced that their 2% inflation target is being met. 

Keeping rate cuts on the table may have a political motivation.  It could deflect Congressional criticism of high interest rates by showing the Fed will ease at some point.  Ironically, one reason for the strong economic growth is the fiscal thrust from increased government purchases, incentives and subsidies.  So, when Senator Warren criticizes the Fed for keeping rates too high, she is pointing her finger to the wrong group.  Indeed, with Biden economics pushing the economy's resources into particular areas, a continuation of high interest rates may be needed to "crowd out" others.  Nevertheless, if economic growth slows into the Spring, it could give the Fed a window to cut rates.  The timing presumably would be advantageous, being well ahead of the Presidential election.

Slow-to-cut or steady Fed policy may become less of a problem for the stock market over time if economic growth remains strong.  The market could realize that corporate earnings will stay healthy despite continuing tight Fed policy.  

The long-end of the Treasury market will tell whether a patient Fed is what's called for.  Longer-term Treasuries stand ready to act as vigilantes against inflationary tendencies in the economy if they surface and the Fed fails to respond.  Longer-term yields will fall if economic growth and inflation slow.

To be sure, Powell's downplaying of a growth/inflation trade-off argues for policy patience.  Strong growth may not result in higher inflation according to this view.  This week's consensus estimate of the January CPI  (Total +0;.2% m/m and Core +0.3%) would lend support to this view, as it will likely translate into lower prints for the PCE Deflator.  The consensus estimate looks reasonable, with mixed risks.  On the upside, there is a possibility that start-of-year price hikes could boost the CPI.   On the downside, seasonals could overly depress some prices if there had less-than-normal seasonal holiday discounting in November-December.  There could be a smaller-than-normal rebound in prices in January.

Besides a benign January CPI, consensus expects softer real-side economic data this week.  Retail Sales are seen slowing to +0.2% m/m in January from +0.6% in December.  Although consensus sees a speedup in Industrial Production to +0.4% m/m from +0.2% in December, there is downside risk given the decline in Total Hours Worked in manufacturing last month.

Fed Patient WIth A Pro-Growth Message

The stock market may trade cautiously but with a positive tilt this week.  Caution would reflect concern about possible unfavorable data surprises like January's unexpected Payroll/Wage prints.  For example, the January CPI (due February 13) conceivably could be boosted by start-of-year price hikes.  However, the January Employment Report was not entirely strong.  And, the Fed's policy stance remains not only patient but essentially pro-growth, based on Chair Powell's comments at the post-FOMC news conference.  In an important comment, he downplayed a theoretical trade-off between growth and inflation  So, while the Fed and markets are likely to take a "wait and see" view -- waiting to see more data, including the February Employment Report (released well before the March FOMC meeting),  upside data surprises may damage stocks only temporarily.

The strong 353k surge in January Payrolls overstated the full import of the Employment Report, as it was not confirmed by other parts of the Employment Report.  The Household Survey showed a decline in Civilian Employment and a steady 3.7% Unemployment Rate.  The Nonfarm Workweek plunged to 34.1 Hours from 34.3 Hours in December.  As a result, the level of Total Hours Worked in January are 1.0% (annualized) below the Q423 average.  Possibly, there was a reporting problem impacting jobs and other data in the Establishment Survey.  There have been times in the past when company responses to the BLS survey were not accurately done during the holiday season.  If this is the case now, there could be large revisions in the February Report. 

The high 0.6% m/m jump in Average Hourly Earnings was most likely a one-off start-of-year spike, if not a measurement problem.  The February Employment Report should show a smaller increase.  This possibility, as well as the mixed composition of the January Employment Report should constrain market concerns that the Fed will shift back to a more hawkish stance.

The potential volatility of the data at this time of year nonetheless underscores why Powell ruled out a rate cut at the March FOMC Meeting.  Although the stock market did not take his comment well, in fact, the essential message of his remarks was highly positive for stocks.  He downplayed a trade-off between economic growth and inflation, highlighting that inflation has fallen despite strong growth over the past couple of years.  This a pro-growth/pro-stocks stance by the Fed.  It means the Fed will not act to restrain economic growth as long as inflation is seen moving toward its 2% target.  It could tolerate strong growth.  To be sure, data showing slower growth/easier labor market conditions are still a market positive, since they will increase the Fed's confidence in achieving sustained low inflation

 

Stock Market Rally On

The stock market rally now looks like it can continue well past this week's FOMC meeting.  Inflation may have attained the Fed's 2% target and economic growth looks solid.  The Fed can become patient, remaining market supportive by making rate cuts still a possibility for H224.  Indeed, Fed Chair Powell may continue to argue that "real" interest rates may become too restrictive as a result of the slower inflation.  With a patient Fed in the background, stocks may take the January Employment Report in stride, particularly if, as the latest evidence suggests, job growth slowed. 

The December Personal Income Report had good news for both the inflation and economic growth outlooks.  PCE Deflators were even lower than their 0.2% m/m  headlines.  Total and Core each rose 0.17% unrounded or up 2.0% annualized.   And, Real Consumption in December was 2.0% (annualized) above the Q423 average -- a strong take-off point for Q124.  Consumption should continue at a good pace in Q124, even if there is some pullback in one or two months as is typically the case after a strong month.

The latest Unemployment Claims data, which include the Payroll Survey Week for Continuing Claims, now support the consensus expectation of a slowdown in January Nonfarm Payrolls.  Consensus looks for Payrolls to slow to +178k from +216k in December.  It also looks for an uptick in the Unemployment Rate to 3.8% from 3.7% and for Average Hourly Earnings (AHE) to slow to 0.3% m/m from 0.4%.  These would be market friendly prints.  Unfortunately, there is no reliable evidence for them. 

The consensus Payroll estimate is likely still too high from the Fed's perspective.   Job growth of 100k or less per month would be more consistent with creating slack in the labor market.  However, this month's Payrolls will incorporate benchmark revisions, which should lower the underlying trend in job growth by about 25-30k per month.  The Bureau of Labor Statistics published its estimate of the benchmark revisions a few months ago.  It estimated a downward revision of 306k (-358k excluding government jobs) in the level of Payrolls in March 2023.   This level adjustment should translate into a lower underlying m/m trend in the months after March 2023 of 25-30k.  The risk is that the headlines for Nonfarm Payrolls will be lower than consensus as a result.

There are several other important US economic data release this week regarding inflation.  Consensus looks for 1.0% (q/q) increase in the Employment Cost Index in Q423, slightly slower than the 1.1% in Q323.  There may be downside risk to the consensus estimate, reflecting smaller bonuses and sales commissions  Consensus also looks for small increases in Compensation/Hour and Unit Labor Costs in Q423.  Perhaps even more important is the expectation of a good-sized 2.4% (q/q, saar) increase in Q324 Nonfarm Productivity.  This would be the third quarter in a row when productivity growth exceeded the 1.0-1.5% typically-estimated trend.  If the trend has moved up, it would allow for faster growth and higher wage increases without being inflationary.

 

 

Stocks OK Into Next FOMC Meeting, But Then?

The stock market should continue to climb this week, helped by corporate earnings and benign inflation data.  So far, more than 2/3 of Q423 earnings reports have exceeded estimates.  And, while not all of last week's US economic data slowed relative to their Q323 pace, many did and, importantly, inflation expectations fell.  All told, the door is not shut for Fed rate cuts at some point this year, and this expectations should underpin the market rally into next week's FOMC Meeting.  After the Meeting, the markets still will have to be concerned if economic growth or inflation are too strong.  The January Employment Report could be the next test.

The upshot of the latest round of US economic data shows a still resilient consumer and a modest upturn in residential construction but soft manufacturing outside of motor vehicles and high tech.  Overall, the labor market has resumed tightening, according to the Unemployment Claims data.  And, if the Claims data stay at their latest levels in this week's report, they would point to a speedup in January Nonfarm Payrolls (due February 2).  The Atlanta Fed model's latest Real GDP projection (2.4% q/q, saar) indicates that economic growth was slightly above trend in Q423.  

Real GDP Growth presumably needs to slow further this year if the Fed is to cut rates, unless inflation falls despite solid growth.  The Fed can be patient without shutting the door on cuts, which might be Fed Chair Powell's message next week.  One Fed official said he looks for rate cuts to begin in Q324.  Being patient means the Fed can downplay high prints for January inflation data, saying they reflect start-of-year hikes that won't persist.  For example, pharmaceutical companies are reported to be hiking a number of drug prices this month, which could show up in the CPI.  This week's inflation data -- the PCE Deflator -- are for December.  Consensus looks for a benign 0.2% m/m for both Total and Core.  This would be lower than the CPI's 0.3% prints and be in line with the Fed's 2% target.

Even with a patient Fed, the markets will likely respond negatively if upcoming data don't point to slower, non-inflationary growth.  With the Fed on hold, work to slow the economy will fall on the markets.  So, they may not be happy with a strong January Employment Report, particularly if it shows a persistently large increase in Average Hourly Earnings.  

 

 

Corporate Earnings and The US Economy Now The Focus

The stock market may trade cautiously but with an upside tilt this week, as the Q423 corporate earnings season begins.  Consensus looks for a slowdown in earnings, but the expectation may be too soft.  In addition, after the high December CPI, the market will be even more focused on the implication of  upcoming US economic data for Fed policy.  Without confirmation of low inflation, strong economic growth can't be dismissed.  Nevertheless, consensus expects mostly softer data this week, which could help stocks. 

Q423 Corporate Earnings

Consensus estimates about +1.0% y/y for Q423 corporate earnings, a slowdown from the 5.9% increase in Q323.  There is upside risk, as the macroeconomic backdrop is very similar to that of Q323.  Real Growth, oil prices and the dollar moved about the same on a y/y basis in both quarters and economic activity abroad improved slightly in Q423 (see table below).  However, there may have been further margin compression, as the Core CPI slowed by more than Average Hourly Earnings (AHE).  Indeed, it is the first quarter in a while when the Core CPI rose by less than AHE on a y/y basis.

                                                                                                                                         Markit
                                                                                                                                          Eurozone                        Real GDP     Oil Prices        Trade-Weighted Dollar    AHE     Core CPI    PMI  
                [                                y/y percent change                                                   ]    (level) 

Q122            3.5                  63.4                +2.7                              5.4           6.4               57.8  

Q222            1.8                  60.9                +5.3                              5.3           6.0               53.9

Q322            1.9                  31.9                +9.0                              5.1           6.3               49.3

Q422            0.9                    6.7                +8.9                              4.9           6.0               47.1    

 

Q123            1.9                -19.5                 +3.0                              4.5           5.5               47.9 

Q223            2.4                -32.0                 +0.5                              4.4           5.2               44.7

Q323            2.9                -12.0                 -2.5                               4.3           4.4               43.2

Q423            2.8 *             -12.0                 -2.5                               4.1           3.9               43.8

                                                                           

* Based on the Atlanta Fed Model's latest projection of 2.2% (q/q, saar).

This Week's US Economic Data

Most consensus estimates suggest a slowdown from Q323 when Real GDP Growth was 4.9% (q/q, saar).  Retail Sales and Industrial Production are expected to be below their Q323 pace.  Manufacturing surveys are seen up m/m, but mixed relative to their Q323 averages.  Housing Starts are seen exceeding their's slightly.  The Unemployment Claims Data have a mixed message -- layoffs have edged down but re-hiring has worsened.  The latter is suggested by the increase in Continuing Claims.  Since the Claims data are the broadest of this week's data, the weakness in Continuing may have the biggest influence on Fed officials' outlook.  This week's Claims data, however, could continue to be distorted by faulty seasonal adjustment of the New Year holiday.  They risk rebounding after the prior week's decline, but they should be viewed with caution.

                                                            Consensus Estimate *        Q323 Average

NY Empire State Mfg Index                     - 5.0  level                      -5.3 level

Retail Sales                                                 0.3% m/m                      0.7% m/0

Retail Sales Ex Auto                                   0.2% m/m                      0.6% m/m   

Retail Inventories Ex Auto                                                                0.0% m/m     

Industrial Production                                  0.0% m/m                      0.3% m/m                                          

Mfg Output                                                        na                            0.2% m/m      

NAHB Housing Mkt Index                               37                               50 level   

Housing Starts                                            1.45 Mn Units                1.37 Mn Units

Housing Permits                                         1.48 Mn Units                1.48 Mn Units           

Phil Fed Mfg Index                                      -8.0 level                       -5.0 level      

Existing Home Sales                                 3.82 Mn Units                4.02 Mn Units

Initial Unemployment Claims                     207k level                     227k level

Continuing Claims                                       na                                1.695 Mn level

 * All data are for December, except for NY Empire State Mfg, NAHB Housing Market Index and Phil Fed Mfg Index.  They are for January.  Claims data are for latest week.

The December CPI

The 0.3% m/m December CPI (both Total and Core) was above the Fed's target.  However, the Report probably did not shut the door on Fed rate cuts this  year.  The excessive inflation was not widespread.  Owners' Equivalent Rent remains the main roadblock to achieving the Fed's 2% inflation goal.  All Items Less Shelter rose 0.2% m/m, and its y/y was 1.9%.  Core Less Shelter also rose 0.2% m/m, and its y/y was 2.2%.  At the post-FOMC news conference, Fed Chair Powell could express patience to see if OER slows in coming months.  Indeed, there was some suggestion in the Report that housing rent may be beginning to slow -- Primary Rent slowed to 0.4% m/m from 0.5%.  Or, he could take a more aggressive stand, arguing that economic growth has to weaken further to pull down inflation.  The high Average Hourly Earnings prints in November and December would support such a stand.

Door Still Open For Fed Rate Cuts

The stock market should move up this week, after it was dented last week by concern the economy won't be soft enough to persuade the Fed to cut rates this year.  The most important report, the December Employment Report, was indeed strong.  It showed the economy needing to slow further to satisfy the Fed.  But, it did not shut the door on Fed rate cuts in 2024, since it still hinted that a slowdown was in progress.  This week's US economic data could keep the door open and help stocks recover, as they are expected to show benign inflation.

Two of the Employment Report's components suggest a slowdown in progress:

1.  The decline in the Nonfarm Workweek to 34.3 hours from 34.4 pushed down Total Hours Worked (THW) to -0.2% m/m in December.  The December level of THW is flat relative to the Q423 average -- a soft take-off point for Q124.  Moreover, THW slowed to +0.8% (q/q, saar) in Q423 from +1.3% in Q323.

2.  The drops in Civilian Employment and Labor Force likely reflect the small sample bias of the Household Survey.  So, not much should be made of them, even though they more than unwound their November jumps.  However, they raise the possibility of a smaller increase in January Nonfarm Payrolls, as Civilian Employment has some leading relationship to Payrolls.

It's noteworthy that more than half of the +216k Payroll gain in December was in Health Care, Social Assistance and Government.  Excluding these sectors, Payrolls rose 105k in December, after being essentially flat in October and November (excluding the impact of strikers).  Net Returning Strikers added about 8k  to December Payrolls.  These sectors are presumably little affected by Fed tightening or a slowdown in economic growth.  Nevertheless, their job gains exert pressure on the labor market.  So, their job growth has to be offset by weakness in other sectors to achieve the Fed's desired increase in the Unemployment Rate to 4.0+%.   

December's  0.4% m/m increase in Average Hourly Earnings (AHE), the second in a row, shows that the labor market is too tight.  AHE rose at least 0.4% in a majority of sectors both for December and on average over the last three months.  AHE needs to rise by 0.3% or less to be consistent with the Fed's 2% price inflation target, taking account of productivity.

A factor that could reduce the need to slow the economy sharply is if inflation moves down toward the Fed's target of 2% for non-macroeconomic reasons.  Fed officials have cited the resolution of pandemic-related shortages and supply disruptions as one such reason.  Lower import prices stemming from the stronger dollar and economic weakness abroad are another.  A factor yet to be fully seen would be a slowdown in housing rent as the CPI survey catches up to the softening seen in private surveys. 

Consensus looks for +0.2% m/m in both Total and Core CPI for December.  This estimate looks reasonable even if housing rent does not slow from its recent trend of 0.5%, but it probably requires that the price declines seen in other CPI components in November continue in December.  This is conceivable.  The unwinding of pandemic-related problems and lower import prices could have underpinned November price declines.  And, they could have continued to exert downward pressure in the rest of the holiday season.  Although the y/y for Total CPI is expected to edge up, the y/y for the more important Core CPI is seen falling to 3.8% from 4.0%.