Weak US economic data portends Fed rate cut

[NEW YORK] Top Federal Reserve officials have said they are open-minded about whether additional interest rate cuts will be necessary in 2019, but recent economic data are putting that equanimity to the test.

The central bank cut rates for the first time since the Great Recession in late July, then followed that up in mid-September, likening the moves to taking out insurance. They were meant to give the economy a little bit of extra padding in case risks on the horizon - from uncertainty created by US President Donald Trump's trade war to economic weakening in Asia and Europe that threatened to spill over - turned into realities.

Data increasingly suggest that a slowdown is, in fact, materializing. Both of the Institute for Supply Management's closely watched surveys, one that tracks manufacturing and another that monitors services, posted declines for September, reports this week showed. Consumer confidence has shown signs of weakening, and while spending is still growing, it has slowed from a robust pace earlier this year.

Against that backdrop, investors have ramped up their expectations for a rate cut at the Fed's Oct 29-30 meeting. In the past week, they have gone from seeing a 50-50 chance that the Fed will cut rates this month to pricing in a move almost entirely.

"Clearly the data have shifted the narrative for the market," said Matthew Luzzetti, chief US economist at Deutsche Bank. "The data in July and September were more mixed - it is now clear that a slowdown has taken hold."

Fed officials, including the chair, Jerome Powell, and the president of the Federal Reserve Bank of New York, John Williams, have been hesitant to clearly signal what comes next for monetary policy.

But their comments came before the latest round of data. On Thursday evening (Oct 3), Richard Clarida, vice chair of the Fed, left the door open to coming rate cuts rather than trying to convince markets that they had gone too far in expecting an October move.

The central bank takes its decisions "one meeting at a time," Mr Clarida said at a Wall Street Journal event when asked about the potential for a coming cut.

"But we will act as appropriate to sustain a low unemployment rate, solid growth and stable inflation. We said that in June, July and September, and I'm saying it to you tonight."

Fed officials have had reasons to keep their options open. The end of October is far away, with many fresh data points between now and then. And until lately, incoming data had been mixed: Bad factory numbers came alongside strong consumer and service-sector figures.

As signs of a broader deterioration surface, Friday's jobs report will be in the spotlight. Officials have taken comfort in the fact that the labour market has remained strong, and will be looking for confirmation of that. Employers added 130,000 jobs in August, and economists expect them to hire a similar number this month.

Even a great report may not shift expectations away from an October rate cut, said Neil Dutta, head of economics at Renaissance Macro Research. Fed officials and most economists anticipate decent hiring and low unemployment, so a strong job market would amount to reaffirmation.

If the labour market shows signs of cracking, though, "the odds for a cut in December will probably look like October does now," Mr Dutta said.

Should economic data weaken further, economists said, it is possible the Fed would move from its current mode - one in which it's playing a protective offense - to all-out defense. They could signal that more aggressive rate cuts are coming, rather than the gentle midbusiness cycle adjustments underway.

The data have yet to call for that change in stance, because there are many signs that economic activity is holding up. Wages are growing, though the pace has stopped accelerating. Unemployment is near a half-century low. Consumers continue to spend, and housing starts have headed higher.

But the bright spots are getting fewer and farther between. Tiffany Wilding, chief US economist at Pimco, pointed out in a research note that the current level of manufacturing and service indexes has historically come alongside 1 per cent overall growth.

If the economy heads in that direction, it will be a major change from the 2.2 per cent gross domestic product gains Fed officials expect in 2019.

Charles Evans, president of the Federal Reserve Bank of Chicago, said on Bloomberg Television on Thursday that he had yet to decide whether the central bank should cut rates this month. But asked whether investors overreacted to weak manufacturing data by ramping up bets for a rate cut, he said, "It was an important piece of data - I don't know if it was an overreaction."

Mr Evans, who spoke before weak service industry data had been released, said the Fed was monitoring incoming information as it headed toward its Oct. 30 decision.

"We'll learn more before the meeting at the end of this month," he said. "Whether or not one more rate cut at this point is the right decision or not, I think we're just going to have to go into the meeting and see."

NYTIMES