The US markets rallied last night as the Federal Reserve released its September FOMC minutes. The S&P Index jumped 0.9% with all 10 sectors ending the day in positive territory. According to the minutes, FOMC members are of the view that raising interest rates too early will risk keeping inflation below the Fed’s target rate.
 
After the last FOMC meeting in September, Macquarie Equities Research (MER) released a research report on 2nd Oct stating that its view for a December liftoff remains. Read for more excerpts…
 
While today’s employment report was disappointing relative to market expectations, it doesn’t change MER’s view that the US expansion remains resilient and on firm footing driven by private sector domestic final demand in consumer spending and housing. As highlighted in end September, MER believes that pessimism has reached an extreme making the present period a compelling opportunity for taking on more risk. MER’s base case remains for December FOMC liftoff, but MER now sees only a very low chance of a move in October and an increased chance of a delay into 2016. MER’s updated probability assessment is October (5%, prev. 30%), December (65%, prev. 60%), 1Q16 (30%, prev. 10%).
 
While more bearish commentators could suggest the three month change in payrolls is its weakest in nearly two years, MER believes it is important to focus on the bigger picture and broader trends. The monthly payrolls estimate is subject to revision and has a wide 90% confidence interval of +/- 105K. Moreover, it is more than enough than what is needed to keep pace with population growth and lead to diminishing slack and firmer wage growth.
 
Demographics means a low number of jobs are needed. MER’s work suggests somewhere between 55K and 100K is all that is required for jobs growth to keep pace with population growth (and prevent the output gap from widening). This is because over 80% of population growth amongst those 16 & over is occurring amongst the 55 and over cohort. Members of this group have a much lower probability of participating in the labour force. Indeed, San Francisco Fed President Williams indicated as much in a speech yesterday where he suggested “The pace of jobs growth must start slowing to more normal levels. Looking to the future, we’re going to need at most 100,000 new jobs each month.”
 
Slack continues to diminish. Although the unrounded number was unchanged, the headline unemployment rate declined by 0.06 percentage points (to 5.05%). What’s more MER’s own metric (which accounts for potential labour force returnees) fell by a similar amount and stands at 5.56%, a new low for the expansion. Finally, the Bureau of Labour Statistics’ most expansive measure of unemployment (U-6) declined by 0.3 percentage points (to 10.0%). This has fallen by twice the magnitude of the headline unemployment rate over the past twelve months. It is likely to continue to decline and should reach 9.6% by December, the same rate it was when the Fed first hiked in June 2004.
 
Wage growth is firmer than you think. Wage growth was flat for September, but in 2015 remains quite strong compared to previous years. Moreover, demographic factors have helped to depress these measures. As highlighted previously, median individual wage growth has already accelerated despite aggregate wage growth remaining relatively subdued. MER believes this divergence is explained by retirements as flows of workers from “employed” to “not in the labor force” have accelerated. Individuals are receiving higher pay, but aggregate wage growth has shown more modest improvement as lower-paid younger (and less experienced) workers replace higher-paid (and more experienced) older workers disproportionately compared to previous periods. Over time, MER expects strengthening individual wage growth to more than offset the drag from retirements, which should persist going forward.

Source: Macquarie Research - 9 Oct 2015