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September 8, 2016

What the August Jobs Report Says About the Next Fed Rate Hike

Economists are making some bold predictions about the Fed Funds rate. A few economists are taking the side of Allianz’s Chief Economic Adviser Mohamed El-Erian that the Federal Reserve will raise interest rates in the September 2016 FOMC meeting. El-Erian stated that he believes there is an 80% chance that theFederal Reserve raises interest rates in September. However, El-Erian’s comments may be proved wrong due to the weaker than expected U.S. jobs report.

Federal Reserve Interest Rate Hikes

Although the Federal Reserve backed off from its initial expectations of four interest rate hikes throughout 2016, it signaled that it will raise the Fed funds rate at least once this year. The Fed raised rates in December 2015 by 0.25%, from 0%, which marked its first hike in nearly a decade. However, it has not made a move to raise rates in 2016 yet.  

At the Jackson Hole summit in late August 2016, Federal Reserve Chairwoman Janet Yellen showed her optimism about the economy and the jobs market. Consequently, this exuded confidence, albeit with cautious undertones, in an interest rate hike before the end of 2016. If the FOMC decides to hike interest rates, it would do so gradually over time to sustain the current employment levels and raise inflation to its target rate.

Strengthening U.S. Labor Market

For the month of June 2016, nonfarm payrolls saw a strong gain of 292,000, while the consensus estimate was just 180,000. Additionally, the unemployment rate came in at 4.9% for the month of June. The upbeat U.S. employment situation report showed strength in the labor market.

In July 2016, the U.S. employment situation showed signs of a strong labor market for the second consecutive month. U.S. nonfarm payrolls slightly decreased to 255,000 for the month of July, but the numbers came in stronger than expected. Economists were looking for nonfarm payrolls of just 185,000 for the month. Moreover, the unemployment rate remained unchanged between June and July, remaining below 5%. The two consecutive months of low unemployment and better than expected nonfarm payrolls signaled to the Fed that the U.S. jobs market was strengthening. Consequently, the Fed’s decision to raise rates may come sooner than expected.

Interest Rate Hike May be in the Cards in November or December

Janet Yellen’s statements during the Jackson Hole summit have caused investors to concern about the potential interest rate hike. Based on Yellen’s comments, market participants looked for clues in the U.S. employment situation report that was released on September 2, 2016 at 8:30:00 AM ET.

Economists were looking for nonfarm payrolls to come in at 175,000, but the estimates ranged between 125,000 and 215,000. However, nonfarm payrolls came in at only 151,000. Moreover, the unemployment rate remained stagnant at 4.9% in August 2016, while economists were looking for 0.10% shrinkage to 4.8%. Private payrolls were expected to come in at 179,000, with consensus estimates ranging from 100,000 to 195,000. However, they came in at just 126,000.

Consequently, since nonfarm and private payrolls both came in worse than expected, the Fed may hold off on an interest rate hike until after the Fed’s September meeting. According to Stern Options Analyst, Anthony Di Maggio, the next U.S. employment situation report for the month of September should be watched closely for any signals at a potential rate hike in November. However, Di Maggio believes that the Fed is more likely to raise rates in December, so the rate hike will not shake the markets around the U.S. presidential election. Di Maggio noted that a rate hike in November is still possible and investors should manage their risk accordingly.

Bottom Line

Market participants, economists and the Fed should continue watching the U.S. Employment Situation report closely and listening for any comments the Fed officials have to say about the economy for hints of the timing of an interest rate hike. The Fed’s two day meeting will commence on September 20, 2016 and end on September 21, 2016. Investors should pay close attention to FOMC comments for indications of when it will raise rates.

The views and opinions expressed herein are the author's own, and do not necessarily reflect those of EconMatters.

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