'Inflation now is a little bit more under control': Goldberg on the U.S. economy

Key Concepts

• Payroll Report: Monthly report detailing the net change in employment in the US.
• Federal Reserve (Fed): The central banking system of the United States, responsible for monetary policy.
• Basis Points: A unit of measurement used in finance to describe the percentage change in interest rates (1 basis point = 0.01%).
• Data Dependence: The Fed’s approach of making decisions based on incoming economic data rather than pre-committed plans.
• K-Shaped Economy: An economic recovery where different segments of the population experience vastly different outcomes – some thriving while others struggle.
• Neutral Rate: The interest rate that neither stimulates nor restricts economic growth.
• FMC (Federal Open Market Committee): The branch of the Federal Reserve System that determines the direction of monetary policy.

Labor Market Softening and the Fed’s Interest Rate Outlook

The December US labor report showed a slowdown in hiring, with an estimated 50,000 jobs added. Gennady Goldberg, Head of US Rate Strategy at TD Securities, characterized the report as “noisy” due to factors like the recent government shutdown, but ultimately indicative of a softening labor market. He noted that three and six-month moving averages for private sector employment are currently between 30,000 and 40,000, representing a “steady state” level of job creation. A key point of observation will be whether the unemployment rate, currently at 3.7%, continues to rise.

Fed Response and Inflation Concerns

Goldberg anticipates the Federal Reserve will adopt a “data-dependent” approach, carefully monitoring economic indicators before making interest rate decisions. While the Fed has historically viewed the labor market as a lagging indicator, they are currently focused on assessing the overall health of the US economy – specifically whether it is moderating. He stated, “they are going to be leaning a little bit less heavily on their worries about inflation,” suggesting that inflation is becoming more controlled, at least from an outlook perspective.

The market currently prices in approximately seven to eight basis points of rate cuts at the March meeting, but Goldberg emphasizes that “every data point matters” to the Fed. TD Securities’ current view is for a rate cut in March, with a January cut deemed unlikely.

Income Inequality and Economic Divergence

A significant concern highlighted during the discussion was the growing income and wealth gap in the US. RBC’s recent report revealed that consumption by the top 10% of US households accounts for one-third of all economic activity. This points to a “K-shaped economy,” where the upper income bracket is performing well while the lower bracket struggles.

Goldberg explained that the Fed is particularly focused on the employment picture, as a softening labor market impacts all income levels. He noted that as long as the unemployment rate remains relatively stable, the Fed doesn’t necessarily need to lower rates significantly, but acknowledges that the current rate of 3.75% is still tight relative to a neutral rate closer to 3%.

Limitations of Monetary Policy

The conversation addressed the limitations of monetary policy in addressing income inequality. While consumers in the top 10% accounted for just under half of all US household spending in the second quarter of last year (up from just over a third in the early 90s), Goldberg cautioned against taking those numbers at face value, suggesting the top 20% account for around 40% of spending.

He argued that addressing income inequality is primarily the responsibility of policymakers (Congress) rather than the Fed, as monetary policy is a “blunt tool.” He stated, “monetary policy kind of a blunt tool in many ways.” The Fed’s focus remains on broader economic factors, particularly the labor market, as a key driver of overall economic health.

Data and Statistics Mentioned

• December Job Growth: 50,000 jobs added (estimated).
• Private Sector Employment (3 & 6-month avg): 30,000 - 40,000 jobs.
• Unemployment Rate: Currently 3.7%.
• Top 10% Consumption: Accounts for one-third of all US economic activity.
• Top 10% Spending (Q2 Last Year): Just under half of all US household spending.
• Top 10% Spending (Early 90s): Just over a third of all US household spending.
• Market Priced-In Rate Cuts (March): Approximately 7-8 basis points.
• Neutral Interest Rate: Closer to 3%.

Conclusion

The December labor report signals a softening in the US labor market, prompting the Federal Reserve to adopt a data-dependent approach to interest rate decisions. While inflation concerns are easing, the Fed remains focused on the overall health of the economy and the potential for a broader slowdown. The growing income inequality in the US presents a challenge, but is largely considered a matter for fiscal policy rather than monetary policy. The coming months will be crucial in determining the Fed’s next steps, with particular attention paid to the trajectory of the unemployment rate and incoming economic data.