Evans defines “extended period”. How does it fit in with Fed tightening.

This morning, Chicago Fed’s Evans defined “extended period” as about 3-4 Fed meetings.  Taken the comment, as his word, and assuming the cards fall into place, this would imply a potential for the 1st Fed tightening at the 3rd meeting which is scheduled for April 27/28 or the June meeting on June 22nd/23rd. 

Between now and then, the Fed would have for its analysis, an additional four employment reports if the tightening would take place in April, or six employment reports if the tightening is to take place in June. 

It is my opinion that although the employment rate is a lagging indicator, the Non Farm Payroll, is not.  As a result, it will be a keyindicator in this recovery.  When  people find jobs after being unemployed, not only does it add that obvious stimulus, but it  also gives those working - who have been working -  more comfort from their jobs. This reversal of confidence from “doom and gloom” to “hmmm, things are getting better” is the basis of any economic recovery.  

Currently, the employment picture is improving.  Last month, Non Farm Payroll fell by -11K which was the best number since December 2007.  Over the last 3 months the average job decline has come in at -87K.  This is up  from over -700K which defined the bottom over the December 2008 to February 2009 three month period. 

The sharp improvement is cause for joy during this Holiday season, but it does not signal a full blown party -  just a toast perhaps.

As a historical guide, in the last three instances when the Fed started to tighten (in 1994, 1999 and 2004), the NFP averaged over +250 K (see chart above).  Therefore, a tightening will not likely take place until a three average of 150K to 250K is being printed. This will take 3-4 months of data assuming all goes accrording to plan. 

The early call for next month shows NFP at no change.   This is despite a rise in the Inital Claims over the last few weeks which has seen the weekly employment data decline from -454k to -480K.  At unchanged, the 3 month average for NFP would rise to  -40K.  Better than -87k but still negative, and still below 150K to 250K needed to tighten. 

Given the three more employment reports between next months and the April meeting, there is the chance that the employment picture continues to get better.  Cencus workers are expected to add 800,000 jobs in the first half of 2010.  The hope is the additional workers will help to stimulate spending and spur on the next phase of growth - including even more jobs above and beyond the census workers. 

This additional employment will be needed as the census workers are a lift for employment and the current economy. However, they still are temporary workers.  As a result, they one day will be let go.  If the 800,000 help create even more permanent jobs, increased confidence and with it increased spending, the growth becomes more entrenched.  This needs to happen to prevent a sluggish recovery that has the risk of falling back down.

Also of note in the comeents this morning, is that Evan’s said the policy can remain accomodative even if rates are rising.  The question is what is accomodative Fed policy?  With rates at 0.25%, rates are at historically low levels.

As a point of comparison, in 2004 when rates bottomed at 1%, it was thought rates were very accomodative.  Generally speaking rates are thought to be accomodative at <2%.  With rates currently at 0.25%, they are well below being accomodative. This was definitely needed when NFP was falling by 700K, but is it needed when NFP is -87K on average?  As a guide in 2004 when rates were at 1%, the NFP  three month average bottomed at -140K.  We are better now but rates are 75 basis points lower.

As result, the Fed has room to tighten and still be accomodative. This may prompt the Fed to be more inclined to tighten before reaching +250K job growth on average.    Rates at 0.5% is still accomodative. Rates at 1% are still accomodative.  If NFP continues to improve and reaches 150K on average (doable by April), the tightening in April might be the meeting of choice for the Fed. Be aware. They have room.  They just need positive job growth to support the tightening.

What is now clear is there is a timetable in place from the Fed.  It is a matter of following the data and in particular the Non Farm Payroll to help determine the action.  Should job improvement continue and jobs are added at a 150K pace, look for action.  If on the otherhand, the numbers don’t show steady improvement, or have a set back, expect the decision to be delayed.  

What is clear is it is time for a toast as we enter the New Year, but don’t party to hearty  just yet.