Extrapolating a range of plausible labour market scenarios underscores the message that the Fed is still a very long way from achieving “substantial progress”. May’s 559k payrolls gain is close to the average pace for the reopening period the last 3 months. If that pace is sustained going forward, the remaining 7.6mn Covid related job losses won’t be recouped until July 2022.See slide one.
The Fed is unlikely to make any material revisions to their labour market forecasts. However it’s a different story on the inflation side. As of their March meeting, the median PCE inflation projection for end-2021 was 2.1%, 2.0% for end-2022 and 2.1% by end-2023. At the very least, the 2021 projection needs to be revised higher.
The only scenario that would see the Fed realise their 2021 PCE inflation projection is a 0% monthly PCE pace, every month through year’s end. See slide two. Even a sustained modest 0.1% monthly pace would still leave PCE tracking 2.6% by year’s end. This is partly a base effect story, but with reopening frictions and acute supply bottlenecks expected to persist for many months these benign scenarios do not seem realistic.
Related to that, more persistent components of the US inflation story seem set to turn. Shelter costs command a 1/3 weight in the CPI basket and about half that in the PCE. As shown in slide three, shelter costs follow housing trends with an 18 month lag and the tightness in the US housing market implies a notable lift for the shelter inflation component in coming months. This is arguably a transitory Covid-related story too, but even so, will likely to play out over several years.
The net takeaway then is that US will continue to have among the lowest real rates in the G30, making for a persistent drag on the USD.
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