The news on jobs was good, and the market discussion quickly pivoted to whether the U.S. economy was ready to be weaned from the Fed’s extra-easy monetary nourishment.
“U.S. employers added more than 200,000 workers to their payrolls … in February, a sign the economy was strengthening and in less need of further monetary stimulus from the Federal Reserve,” reported Reuters. “Stocks on Wall Street closed higher on the data, while Treasury debt prices dipped as traders dialed down the prospects for more bond buying by the U.S. central bank.”
This all happened, and was written, exactly 364 days ago. From December 2011 through February of 2012, the economy generated an average of 245,000 new jobs per month. The general interpretation was that the labor-market recovery was strengthening, and indeed President Obama’s odds of re-election immediately improved following the February employment report a year ago.
The stock market was already up nicely for the year and was in the process of shaking off a little dip on the way to logging a new high in April. The yield on the 10-year Treasury shot higher last March from 1.94% before the February jobs data to 2.38% in less than two weeks, before settling back down.
A good match
It all matches up pretty well with the current news following Friday’s report of a 246,000 rise in nonfarm payrolls and a drop in the unemployment rate to 7.7% from 7.9%. Stock indexes, already challenging all-time highs, improved a bit and the 10-year Treasury yield jumped above 2%.
As it happened, beginning shortly after the year-ago run of peppy employment results, job creation downshifted in subsequent months, the global economy sustained another summer slowdown scare and the Fed in September launched what is known as QE3, buying $85 billion in bonds per month indefinitely.
This doesn’t mean the recent improvement in the job market will necessarily prove fleeting, or that the same seasonal pattern of waxing and waning economic momentum will develop again.
But this recent history does suggest that the Fed Chairman Ben Bernanke and his colleagues will wait to make sure the decline in the unemployment rate becomes a sturdy and undeniable multi-month trend before they consider altering their aggressive support through the credit markets.
The burden of proof
Economic numbers for the past couple of years have arrived stronger than expected through the winter months and then flagged into spring, a tendency that keeps the burden of proof on the economic expansion to prove it has stamina.
As noted here earlier this week, Bernanke and Fed Vice Chair Janet Yellen have gone to pains to persuade investors that they want to see the economy attain “escape velocity” before they move toward tighter policy.
Following Friday’s numbers, RBS economist Michelle Girard wrote: “While the market will be inclined to extrapolate this strength forward (all the way to asset purchases being curtailed sooner rather than later), remember that the sustainability of this strength is still unclear, as sequester cutbacks could undermine activity in coming months.
“Also, the Fed Chair and Vice Chair have made clear they are just as concerned about the risks associated with pulling back support too early as they are with the costs of overstaying their welcome in providing accommodation. In the end, we think it will take more than one or two reports like this to convince the Fed leadership that the labor market has indeed improved ‘substantially’ and a shift in stance is warranted.”
In Bernanke's interest
On a more subtle level, it’s probably also in Bernanke’s interest to avoid sending signals that he believes the economy is picking up a strong head of steam, in order to keep longer-term interest rates anchored at relatively low levels. Big, rapid increases in long rates would ultimately undermine the housing and auto recoveries that are central to the recovery story.
Naturally, investors themselves tend not to be as patient about waiting and seeing as Fed officials are, and stock and bond markets will no doubt cringe in anticipation of a tough-love Fed numerous times, even as the central bank remains indulgent of the markets.
Investors at this stage of the bull market still believe the Fed is a key, or even the only, support for risk assets, and will have to be convinced slowly that a Fed that feels the economy is strong enough to stand on its own is a positive thing. There will be time for this point to sink in.
In the interim, investors’ task is to determine whether its 15% jaunt higher since mid-November is due to undergo some deferred digestion and retrenchment, the way last year's first-quarter rally eventually did. That question is almost wholly independent of what surmised intentions traders and market commentators project upon Bernanke.