The Fed: will it be 25 or 50?

0:05Pushkin. The Federal Reserve meets to set US interest rates next week and the pressure is building thanks to signs that the labour market is in a bit of a tough spot. So sure, you know, the economy's adding jobs, but at a much slower pace, suddenly, team recession is in the ascendancy again. Now, they've been wrong before, and so help them, they'll be wrong again. But today on the show, we're going to talk about what the argument is that a recession really is looming this time, and ask, will the Fed do what it normally does and just cut interest rates by a little bit? Or will it go large? This is Unhedged, the markets and finance podcast from the Financial Times and Pushkin.

0:50I'm Katie Martin, a markets columnist here at the FT in London, and I've got a bit of a cold, so excuse any sniffles. I'm joined by that guy with the loud voice, Rob Armstrong, Senior Executive Vice President of the Unhedged newsletter. And he's so loud that we can hear him all the way from New York City. How are you going, Rob? I'm doing fine. I don't know what you're talking about about my voice though

1:18well that's all of our listeners I think people tease me that if I wasn't tall and loud I never would have succeeded in life those are my only defining characteristics unless you count baldness that's a character trait that's what my husband tells me oh dear I hear the world is ending over there in the States. It's not ending. It's kind of... Doesn't it feel like it? If it's ending, it's the whimpery kind of ending, not the explosion kind of ending. Not the bang kind of ending. The jobs report for August was actually better than the jobs report for July, but not better enough was the issue. We need more good.

2:08We need more better. so going back in time everyone was terribly shocked by the july report we've talked about this on this show that was one of the starting non-farm payrolls report right the big mac daddy of the global data calendar indeed and you will remember last time when it hit in july that was the starting gun for the quite severe but ultimately totally pointless market panic and that, you know, stocks went crazy. And then there was like, it was as if nothing happened four days later. Yeah. Anyway, that number, that was 114 ,000 jobs added and an unemployment rate of 4.3. That was much worse than people expected.

2:56There was a great wailing and rending of garments and gnashing of teeth. And there was extremely high hopes that what had happened is that July, there was like a hurricane in Texas, weather generally was poor, maybe it was all a statistical anomaly. It was the unemployment rate, that 4.3, that got people particularly worried. Although the jobs created number wasn't great. These two pieces of data, by the way, come from different surveys. So they're kind of independently important. Just to be annoying. Just to be annoying. So the latest number that we got on Friday. Yes. 4.2. Better. But unfortunately, those of us who are so hopelessly nerdy that we look at multiple decimal places will have noticed that the difference between 4.3 and 4.2 was like the change actually wasn't as big as the change in the single decimal point number would have suggested.

4:00So that wasn't very good. And horribly, the bad July number was revised down again. So it had been 114 ,000 jobs created. That was revised down to 89. So July got worse, even as August got better, it was 140 ,000 jobs or something. Now, the thing is, like, there's a lot of numbers there, but really you don't need to pay too much attention to any of them in the sense that, like, the headline payrolls number is a sufficiently random walk. Like, you know, it's incredibly difficult to be precise about this. It is difficult. And you have to look. One month doesn't tell you a lot. And you have to look at a kind of multi-month series.

4:43Yeah. And when you look at that multi-month series, what you see is slowing. The direction of travel in the labor market is not under debate here. It is cooling. The unemployment rate is rising and the job creation rate is falling. And this direction of travel, it's kicking in a really, really delicate time. Yes. Because barring, I don't know, meteor strike or something, when the Fed meets next week, it's going to cut interest rates. Well, in the case of a meteor strike, I think there's going to have to be at least 75 basis points. I'm going to go for a full percentage point. Barring a meteor strike, the Fed is going to cut interest rates next week.

5:37Definitely. They've made it pretty clear. They've laid the groundwork here. They've telegraphed it, as the market says. Now, the data, particularly the jobs data, is sufficiently squishy that we get back to a debate around, OK, did we go for 25 basis points, which is a quarter of a percentage point, and is like the normal increment by which central banks move interest rates? So do they do 25 or do they do 50? Do they go for half a percentage point cut? Now, generally speaking, like 50 basis point cuts are reserved for small meteor strikes or like genuinely bad things happening or, you know, like a severe and sudden downturn in an economy for some reason.

6:21We've talked about this before, Katie. There is a very much live debate about whether rate cuts are important because they change interest rates or because they signal things. They are like a communication tool about how the almighty central bank is feeling. Yes. Right. And so. The gods of Olympus. Yeah. So 25 basis points is kind of, we need to adjust, but everything's cool. 50 is like Zeus and the Olympians are a little concerned. And 75 is like, oh, ye mortals feel our wrath. Yeah. 75 is finish the bottle, right? We had some, like, yeah, 75 is not up for discussion. But the market, you know, if you look at these kind of market-based ways of telling what investors think the Fed is going to do next, it's definitely not writing off a 50 basis point move this time around, right?

7:24No, according to the CMEs, very useful FedWatch tool, there's a 27 % chance of a double whammy, a 50 basis point big boy cut. And so that's serious. And, you know, there's a little time, you know, there's a few days, you know, we can see how things go, but it's possible. Yeah, yeah. Yeah. And we'll talk about why all of this matters in a little minute. But one thing that struck me as particularly interesting was that straight after the payrolls numbers on Friday, like within a couple of hours, we had a couple of Fed speakers, right? A couple of rate setters from the Federal Reserve. And they didn't rule 50 basis points in, but they didn't rule it out either, right?

8:11Yes. It was a frustrating day from the release to the Fed speak after the data and the Fed speak that followed the data, we were all hoping for the moment of clarity and we got a bit of a moment of opacity. You know, my reading of the speakers, they were like, well, we're open to it. We're going to talk about it. It's definitely time to cut. Maybe we ought to be prompt about it. So it was all a bit vague, I thought. You're a man of letters, Rob Armstrong. You read books and all sorts of things. So tell me, please, what the hell is equipoise? I thought that was something in ballet. So John Williams, president of the New York Fed, said, and I quote, the significant progress we've seen towards our objectives of price stability and maximum employment means the risks to the two sides of our dual mandate have moved into equipoise.

9:07Make that what you will. Equipoise is so we used to be much more worried about inflation. Now we're worried about employment and inflation. at the same time. Yeah. Yeah. But it's a nice new word for your vocabulary, isn't it? It is very good. Your newsletter. Equipoise. I would say that it's not even equipoise at this point. I think old Williams is wrong there. I think inflation is dead. I think that's off the... Of course, I'm jinxing us all massively by saying this, but I just think the inflation risk is pretty much off the table. The last bunch of inflation points have been really good. Commodities are falling fast.

9:52China is like in an economic mess and is exporting deflation. We got to worry about jobs now. I think we won the inflation war, he said, dooming us all to a resurgence in inflation. Williams' point is it is appropriate to cut interest rates. It is appropriate. That is the takeaway. way it is a slightly more urgent tone came from another fed governor uh christopher waller who said the current batch of data no longer requires patience it requires action yes that sounds 50-ish doesn't it it does now we care about all this partly because we're just tedious boars like that and partly because generally speaking right lower interest rates are a good environment for stock markets because you have lower cost of borrowing and everyone's happy and everything is well in the world.

10:45The problem is, if they go large, to me, that says, oh, lads, we've got a bit of a problem here. It sends a scary signal. It says, we've kept interest rates too high for too long. The economy's creaking. It's kind of our fault. Please don't notice. Have half a percentage point and please make this all go away. And what do you think is going through their minds as they consider, do we start a cutting cycle with a half a percentage point move? Or does that say too much on that signaling point you were talking about earlier? It's worth looking at the markets here. So we had the weaker than expected jobs report on Friday morning.

11:24And that jobs report, you have to think, made larger cuts more likely on the margin. That was a more cuts kind of jobs report. the stock market was not like, yay, more cuts, stocks up. It was like, boo, scary, stocks down. And the good part of that - Sophisticated analysis. And stocks fell 1.7%. I think they should go 50 and here's why. As I said before, my working assumption is that the battle with inflation is won. And given that that is true, rates are too high. And the Fed can say that. They should say not, oh, these are terrifying employment numbers and we have to get ahead of it. They could say, we're pleasantly surprised by the inflation news.

12:18Real rates are quite high. We think we can really take our foot off the gas here. So it's a communication problem of not sounding panicked, but it really is time for 50. They don't want to be behind the curve on this in the next couple of months. 50 sets you up well there. And there are problems in the economy that have been caused by high rates. Notably, the housing market is a mess. And that is upsetting people. And it's harming consumer sentiment. And taking 50 off would be good. And I think the problem of appearing panicked can be solved by careful communication.

13:09I'm going to take the other side of it. I'm just going to say, like, I just can't see them kicking off a cutting cycle with 50 basis points. It says too much. It says we've messed up. And it says abandon hope. All ye who enter here, there's a recession coming and we're struggling to get ahead of it. And, you know, Jay Powell, he's good at this stuff. The Fed speakers are all very good at this stuff. But it's so easy to miscommunicate. It's so easy for the market to get the wrong end of the stick. I think the danger is too high. Why not just do 25? And if the brown stuff is really hitting the fan next time around, then straight after the U.S.

13:48election, which is the next opportunity, do 50. Fine. But my core assumption here is that they go 25, 25, 25, round off the year. and leave it there. But my level of confidence in that has eroded somewhat, but I'm still saying 25. I don't think we are heading into a recession because I think the general data is too good. In other words, we're seeing some wonky employment data. We've had a very strange five years in terms of employment. The employment numbers have been sending weird signals for a long time. The signals from the rest of the economy are really pretty good. Consumer spending, and I'm going to get around to it, this sounds like an argument for 25, but it's not.

14:41So GDP growth is good. Consumer spending is good. Corporate earnings are good. This really is a cut, a 50 basis point cut that says, we won. We fought inflation and we won. This is our victory lap. And now it is appropriate to have rates that are significantly lower. Psychologically, their worry about saying that is if you send that message and then inflation does perk up, God help you. You're Arthur Burns, the notorious central banker who let inflation get out of control in the 70s. Still, I'm plunking hard for 50. I think rates are too high given that inflation is over. Let's just get on with it and the market will be okay.

15:33Okay. You're taking 50. I don't think they're going to do it. There's a separate bet about what they're actually going to do. I think you're right about what they're actually going to do. You can't just keep going backwards and forwards on this. No, I'm saying they should do 50. They will incorrectly do 25. They will listen to this podcast and for reasons known only to them, be convinced by you instead of me, and we'll get a 25 basis point cut. Well, look, we'll know in a week and a bit who is right and wrong. You're wrong. On that note, we're going to be back in a second with Longshore.

16:16Okay, it is time for long short, that part of the show where we go long, a thing we love, short, a thing we hate. Rob, what you got? I'm short the new iPhone. Oh, it's got that dreadful AI in it. Apple is like the best company in the history of the world. And my admiration for the company is undimmed. however the idea of wanting to have ai functionality in your smartphone is the craziest thing i have ever heard it's like all i want my phone to do is leave me the hell alone i don't want it thinking things up for me or respond i don't want to chat with it i want it to do things my phone does and be a smaller part of my life right and the idea that i like a personal assistant in my phone oh it's like dystopian nightmare terrible i think i'm i'm i'm an android girl i don't particularly like iPhones but i think you can switch the AI thing like off yeah but the idea you're going to pay more to have something on the phone correct no rational person would possibly want come on you know yeah that's a good call i mean of course it'll sell everything apple touches turns to gold.

17:32It's going to be fine. Everybody's going to have it, et cetera. But I'm going to be sitting in the corner being grouchy about it. Yeah, fine. You can be cumulgently. I am long vets. Now, I know you pesky Americans, when I say vets, you think veterans. I mean, veterinary surgeons, animal doctors. Yes. They're the nicest people in the world. They've devoted their lives to taking care of animals. They are the best. So this time last week we were talking off air about how I didn't know if I was going to be able to make the show because my dog was poorly and he was doing this whole oh no I'm so poorly I'm going to die and then it turned out he just had a sore bum and then it turned out the sore bum was a red herring and he really was about to die so like the next day like he looked absolutely terrible and the vet said we had to take him to the doggy hospital and we nearly lost him and it was awful but what has cured him because hallelujah he came home last night was a week in the doggy hospital being you're never going to be able to retire now are you no that's the thing it was basically had an intravenous drip pumping money into him yeah no you're broke now dude you got to take a second job you got to do two podcasts now and Is this how the American health care system works?

18:54It absolutely is. My brother-in-law, my brother-in-law, Sean, he has a really nice golden retriever. Ate a corncob,$8 ,000 go to money heaven. Get that corncob out of there, out of your dog. The moral of the story is we should have been veterinarians. What are we doing in this job? We should have been vets. And I mentioned to a buddy of mine who loves his dogs, the trauma that we'd had with our dog. And he said that he also has dogs and that his vet drives a Maserati. So make of that one. That's the signal. So on the one hand, dreadful, dreadful money sink. On the other hand, thank you so much for saving my precious dog.

19:39On that note, we're going to wrap up. Unless we are studying to be vets or unless the meteor has indeed hit, we'll be back in your ears on Thursday. So listen up wherever you get your podcasts. Unhedged is produced by Jake Harper and edited by Brian Erstad. Our executive producer is Jacob Goldstein. We had additional help from Topher Forhez. Cheryl Brumley is the FT's global head of audio. Special thanks to Laura Clark, Alistair Mackey, Greta Cohn and Natalie Sadler. FT Premium subscribers can get the Unhedged newsletter for free. A 30-day free trial is available to everyone else. Just go to ft.com slash unhedged offer.

20:17I'm Katie Martin. Thanks for listening.

20:37Thank you.