Robust Employment Data Prompts Second-Guessing of Fed Strategy

In economics, second-guessing can become as natural as the natural, also called neutral, interest rate. And are people ever being Monday-morning quarterbacks when it comes to the Federal Reserve’s monetary policy and the September jobs numbers/?

Two reminders. One, going into the September meeting of the Federal Open Market Committee, many people were absolutely convinced that the Fed needed a big cut. Jeremy Siegel, a professor emeritus of finance at Wharton and chief economist at WisdomTree Investments, called for an emergency 75-basis-point emergency reduction in early August because of previous statements by the central bank, such as the “long run fed funds rate when inflation reached 2% and unemployment has come up to 4.2% should be 2.8%,” which would be “normal.” He then said that inflation at 2.5% was more than 90% of the way to the first Fed target and the 4.3% unemployment rate was already past the second but with no rate cut.

Nobel laureate Paul Krugman posted that he has been arguing for a 50-basis point cut in September, not an inter-meeting cut to avoid generating panic. And then inflation came under expectations at 2.5% in September. Things were calming. The Fed made its half-percent rate cut.

Now for the second reminder, even when the U.S. Department of Labor reported more than 254,000 jobs were added, with an unemployment rate of 4.1% on Friday – much better than the Dow Jones survey of economists prediction of 150,000 jobs and 4.2% unemployment – suddenly, many people in economics and on Wall Street got cold feet.  They second-guessed that the Fed had gone too far when so many voices previously thought it was an obvious move.

“Today’s employment report confirms suspicions that we are in a high neutral rate environment where responsible monetary policy requires caution in rate cutting,” said Lawrence Summers, Harvard professor, former president of the university, secretary of the treasury in the Clinton administration, and director of the national economic council under Obama. “With the benefit of hindsight, the 50 basis point cut in September was a mistake, though not one of great consequence.”

To Summers’ credit, he’s been far more cautious than some others about the state of the economy — and also was demonstrably wrong in predictions of how much unemployment would have to rise for inflation to slow.

Apollo Chief Economist Torsten Sløk, who has also been skeptical of lower rates, said in a note last Saturday that there was “no need for Fed cuts.” He thought the economy was strong for multiple reasons: lower sensitivity to Fed hikes by consumers and companies with locked-in lower rates, strong AI spending, and strong fiscal and defense spending.

Ed Yardeni, of Yardeni Research, told Fortune that the Fed would likely pause rate cuts for the rest of this year after the jobs report came out.

Meanwhile, Mohamed El-Erian, president of Queens’ College, Cambridge and former CEO of PIMCO, told Bloomberg that “inflation is not dead.”

“For the Fed, it means push back much harder against pressure from the markets to put you in the single mandate box,” El-Erian added. “Enough talk about, ‘The Fed should only be concerned about maximum employment.’”

Perhaps. But there has been a lot of certainty on many parts that don’t necessarily prove itself right.