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Markets Pricing in Further Rate Cuts


Bernanke appears hell bent on matching Japan's Zero Interest Rate Policy.

Still more evidence is pouring in that the economy is not only in a recession but is also rapidly weakening. Consumer Spending Is Slowing And Unemployment Claims Rise:

Purchases rose 0.2 percent in December after a 1 percent gain the month before, the Commerce Department said today in Washington. The Labor Department said jobless claims rose to a 27-month high last week, though the figures may have been distorted by adjusting for holidays, a spokesman said.

Initial applications for unemployment insurance rose 69,000 to 375,000, in a week when data may have been distorted by adjusting for the Jan. 21 holiday, a Labor spokesman said. The number of people staying on benefit rolls rose to 2.716 million in the week ended Jan. 19, from 2.669 million in the prior week.

"These are levels that are indicative of a recession," James Caron, global head of interest-rate strategy at Morgan Stanley in New York, said in a Bloomberg Television interview. "If the trend continues to be high jobless-claims numbers like this, it's going to really add some validity to the expectations that the U.S. is, in fact, in a recession at this time."

Rate Cut Probabilities On 2008-01-31

Curve Watchers Anonymous is watching the probability curve of Fed Funds Futures. Here is the chart.

Click on chart for sharper image.
Above chart thanks to Cleveland Fed.

As you can see, the market is rapidly pricing in yet another half point cut at the March FOMC meeting. That would bring rates down to 2.50%. Bernanke now appears hell bent on matching Japan's ZIRP (Zero Interest Rate Policy) in a misguided attempt to prevent deflation, a deflation that I might add is badly needed. So much for anyone really wanting "affordable housing".

ADP National Employment Report

The ADP Employment Report for January 2008 is out:

Nonfarm private employment grew 130,000 from December 2007 to January of 2008 on a seasonally adjusted basis, according to the ADP National Employment Report™. The estimated change in employment from November to December was revised down 3,000 to 37,000.

January's increase of 130,000 is consistent with nonfarm private employment growth that averaged 110,000 during the three-month period from October through December 2007. Employment in the service-providing sector of the economy grew 141,000, while employment in the goods-producing sector declined 11,000, the fourteenth consecutive monthly decline. Manufacturing employment in January was flat after eighteen consecutive monthly declines.

Payroll Playbook

I don't buy ADP's estimate and the Fed Fund Futures don't either. The BLS report is out tomorrow and I am looking for massive downward revisions that may point to out and out jobs contraction. We all know the BLS revisions are coming sometime, and if not tomorrow then my forecast may be way too cautious. But with consumer holiday sales a total flop, and in light of job cuts at banks and brokers, and with commercial real estate dramatically slowing, if by chance I am wrong then this will be the last hurrah.

Job Estimates

  • ADP 130,000 Non-farm Private
  • Economist Estimates 70,000 Total
  • My Estimate: 25,000-125,000 (with expected revisions)

These are the kinds of predictions that can make one look silly. Indeed they will, if the expected revisions do not come in. The only question in my mind is whether the BLS goes for the "big bang" revision or works it in over time. Regardless, the BLS is going to have to fess up sometime, and January and July are the months in which they typically do.

That said, it is not the backward revision that really matters, it is what happens going forward. In that regard, the trend towards higher unemployment has just started. Things are going to get worse, much worse with the service economy (the only bright spot outside of healthcare) about to take a massive hit as the overbuilding of retail stores comes to a grinding halt.

Pavlov's Dogs And Rate Cut Reactions

The market is rallying on the "good news" of more rate cuts. This is trained Pavlog's dog thinking. However, unemployed persons are not going to be paying mortgages, and capital impaired lending institutions are going to be stuck with more houses as People "walk away", some because they want to, many because they have no choice.


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