Fed and Market Agree: Recovery Is Not Proven

Federal Reserve officials have multiple chances this week to redirect market expectations for additional quantitative easing in the wake of the disappointing Friday jobs reportand markets will be watching closely whether those opportunities are taken.

The Federal Reserve headquarters in Washington, DC.
The Federal Reserve headquarters in Washington, DC.

Nine of the 17 members of the Federal Open Market Committee will speak this week (some of them multiple times), including speeches by Fed Chairman Ben Bernanke that will bookend the week.

Both of the chairman’s speeches will be related to the financial crisis and not monetary policy or the economy, but he’ll answer questions from the audience that could broach either topic.

Fed Vice Chair Janet Yellen might offer the most important real clues as to how the Fed processed the disappointing 120,000 March jobs in her speech Wednesday in New York. Former Fed Vice Chairman Donald Kohn sometimes served as an advanced guard for the thinking of Chairman Alan Greenspan and in general, the vice chairman’s positions don’t stray too far from those of the boss.

What we know is that Bernanke was already concerned that the December-February strength in jobs wouldn’t last. His labor market speech a week ago sided with the explanation that the recent improvements represented “a catch-up from outsized job losses during and just after the recession” and that an increase in hiring — as opposed to just a decline in firing — and strong economic growth were needed to keep the momentum going.

Other members of the FOMC shared his concern, with the minutes of the March FOMC meeting noting: “While recent employment data had been encouraging, a number of members perceived a nonnegligible risk that improvements in employment could diminish as the year progressed, as had occurred in 2010 and 2011, and saw this risk as reinforcing the case for leaving the forward guidance unchanged at this meeting.”

Note that it doesn’t say “reinforcing the case for additional easing” and it was the absence of a statement like that that spooked the markets when they read the minutes Wednesday. It prompted Goldman Sachs Chief Economist Jan Hatzius to say he believes that “there has been a shift in the Fed's reaction function back to the hawkish side, and there may be a bit more complacency about the risks to the outlook.”

Translation: It will take more than one lackluster jobs report to bring the Fed back in, but Hatzius says more QEis his base case.

Still, not everyone is writing off the jobs market just yet. Drew Matus at UBS believes the March data was the collective payback from warm-weather hiring of the prior three months. He still pens in 200,000 for future job growth this year, as does Robert Mellman at J.P. Morgan.

Mellman supports his view with other evidence from the job market, including downward trending jobless claims and increases in the jobs components of both ISM reports, services and manufacturing. He acknowledges that the weak payroll numbers raise questions about growth but sees it as an outlier.

The March number as an outlier is an alternative to the concerns expressed in the FOMC minutes that we are on our way back to revisiting the recent pasts where job gains evaporated in the spring and early summer.

Back in 2004, the economy was just beginning a turnaround from a jobless recovery. Growth was between 2.5 and 4 percent, and employment gains averaged above 250,000. But there were at least three instances where growth fell off below 100,000 for a single month. In fact, in June and July 2004, average job growth plunged to 60,000 per month, after averaging 300,000 the prior three months.

So it isn’t unusual to see even a couple weak months amid an otherwise strong trend. Of course, the unemployment rate was only around 5.5 percent, then so there was not a sense that things were as dire then as there is now.

Which helps explain the market reaction to Friday’s jobs report: Nearly three years into the recovery, with unemployment still high at 8.2 percent, the market believes this recovery is guilty until proven innocent and that the Fed needs to do more until it’s proven that it doesn’t.