Markets Wrap (2H August)

Inflation risks become old news as labour market risks come to focus
Two years ago at the Jackson Hole conference recession looked all but imminent, as high interest rates should break the economy. However, last month in the same conference J. Powell has delivered a winning speech: "Overall, the economy continues to grow at a solid pace. But the inflation and labor market data show an evolving situation. The upside risks to inflation have diminished. And the downside risks to employment have increased." As a reminder, FED has a dual mandate - it must target price stability maximum employment. Now FED is poised to look more at the latter. After June's report that has contributed to an increase in volatility in the markets and a downward revision of employment figures, the markets will look at any labor figures with scrutiny. However, let’s put the labor situation in context:

•    In the year up to March 2024, the US created 172,000 jobs a month, down from the previous estimate of 242,000. By comparison, in the three years prior to the pandemic, the figure stood at 179,000.
•    Initial unemployment claims are little changed at around 240,000 per week. This is above the figures seen at the start of the year, but far from the numbers seen at the end of 2007 (start of recession).
•    Total employment is at all time highs and even a rising 4,3% unemployment is still incredibly low from a historical standpoint.

To sum up the situation: currently the labor situation is worsening, but from one of the best positions it has ever been. Recession risks have almost not changed, Bloomberg probability forecast remains at around 30%. While the situation can deteriorate (next jobs report is on September 6th), for new FED can celebrate.

Powell "confirming" rate cuts did not move the markets

Powell has said that time for rate cuts is here, the question now is how big and fast the cuts will be. The market maintains its foot that in the 3 meetings this year FED will lower rates by 1%p. Next year a further 1,2%p of cuts are expected. Equity markets are hoping for a goldilocks scenario where both the economy holds up and interest rates go down. However, there have been very few instances where rates were sharply lowered without the onslaught of a recession.

France props up eurozone while Germany bogs down

Eurozone August PMI data has defied the odds and signaled growth at 51,2. France has been a big contributor to this, as its PMI has increased to 52,7 from 49,1 in July. Of course, the Olympic games have had a large impact as businesses cited increased volumes from increased spending. The upbeat outlook was soured by Germany - its PMIs receded further, and it has been confirmed, that the economy shrank 0,1% in 2Q. Germany's industrial outlook continues to deteriorate and there are little signs of hope. Ever since the start of 2023 its manufacturing output has receded steadily, however it has been stagnating for a decade. Some economies (like Lithuania's) can grow through other means, but it seems that without its industry and manufacturing Germany could falter and become a story like Japan has been for the last 30 years.

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