A Fed Pause In A Tight Labor Market

The Federal Reserve meets again on June 13^th-14^th  for its periodic Federal Open Market Committee (FOMC) meeting. This meeting is a critical one. There is a general expectation that the Fed will finally pause historic rate increases at this meeting. To illustrate the point, a May 23rd Forbes headline boldly declared And on The Seventh Day, The FOMC Rested. Whether or not the Fed pauses rate hikes, a pause is generally what the market is anticipating.

Why should you care? The Fed’s heavy-handed influence has pummeled markets.  Raising interest rates, for the primary purpose of squeezing out liquidity from the economy to combat inflation, makes for a challenging investing environment.

Why are investors expecting a pause? In short, inflation metrics are looking better. The popular FedWatch tool is forecasting no change (i.e. a pause) in interest rates at this next meeting. There is also a high probability that we will see a rate cut or possibly multiple cuts before year-end, though any cuts will take us nowhere near the low levels of recent years. But there is one giant variable which could get in the way of the Fed easing its monetary policy and pivoting to rate cuts – the labor market. 

We are still in a very tight labor market. As of May 2023, the US unemployment rate held steady at 3.4%. There remain 1.8 job openings for every employable person available to work. Fed Chair Powell has repeatedly expressed that a tight labor market like the one we’re in now will further exacerbate inflation.

But this concern may potentially be mitigated. The trend has been for employers to poach talent away from other companies, with the promise of higher pay and incentives. A better-paid worker is likely to spend more and thereby increase the money supply in the broader economy. An increase in the money supply means inflation remains elevated. More money chasing after too few goods and services results in increased prices. Recent data suggest, however, that the number of workers quitting and/or jumping to another employer is declining. Meanwhile, companies are simultaneously having success in filling job openings! How can this be? According to the Wall Street Journal –

The number of people getting hired, meanwhile, picked up, suggesting that rather than poaching employees from each other, employers were increasingly tapping into new workforce entrants and the ranks of the unemployed.

This is good news for Gen Z and the unemployed! It’s also potentially good news for the economy and markets.  A new hire out of school, especially in times of economic uncertainty, will command a lower starting salary than someone with years of experience. The same is generally true for the person who has been unemployed for a longer period of time. It remains to be seen how this trend will influence the Fed’s decision-making process, but this promising trend in new hires could have a more muted effect on inflation than an experienced job-hopper type hire might.

All this to say – we await the Fed’s decision. This next FOMC meeting will give everyone a greater sense of direction as to where the markets are headed in the short term. But if you are a long term investor, you’ve seen different versions of this movie before. You remain patient, invested, and focused on the long term.

-Jonathan Cameron, CFP®