01 February 2017

US labour market pains on the horizon, says LGIM

In Legal & General Investment Management (LGIM)'s February Fundamentals, Global Economist James Carrick addresses the quandary facing the Federal Reserve (the Fed) in 2017.

This time last year, financial markets were in turmoil. But the interventions of major central banks in 2016 appear to have worked: risk assets have rallied and credit conditions have eased, leading to a general consensus that US growth will hold up 2017.

According to James, however, the tight US labour market is driving inflation and squeezing corporate margins. As a result, the Fed could be caught between restraining inflation and limiting the burden on a squeezed corporate sector.

“Although it is widely acknowledged that ‘headline’ inflation is likely to rise in line with the recovery in commodity prices, many believe ‘core’ inflation pressures remain weak,” says James.

“But there is a larger channel through which commodity prices can affect core inflation – via wages.”

“If we’re right that the tightness of the labour market has been masked by second-round effects from lower commodity prices, then wages and core consumer prices should accelerate in 2017. The Fed is therefore likely to hike rates two or three times. In turn, this could cause a self-reinforcing tightening of credit conditions.”

“The big picture is that in contrast to previous years, the Fed has more than one fire to fight. If it keeps interest rates too low for too long, it risks inflation taking off. If it tightens too quickly, it could undermine corporate finances.”

“While economic growth is expected to hold up well over the next 12 months, investors with a longer-term investment horizon might want to be cautious. Our analysis suggests we are approaching the end of the economic cycle.”

Read this month's Fundamentals: Labour market pains.

For the latest views from LGIM’s economists, please visit the Asset Allocation team blog at www.macromatters.com.


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Elisabeth Steyn
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Notes to editors

Legal & General Investment Management:
Legal & General Investment Management is one of Europe’s largest asset managers and a major global investor, with total assets of £853 billion*. We work with a wide range of global clients, including pension schemes, sovereign wealth funds, fund distributors and retail investors.

Throughout the past 40 years we have built our business through understanding what matters most to our clients and transforming this insight into valuable, accessible investment products and solutions. We provide investment expertise across the full spectrum of asset classes including fixed income, equities, commercial property and cash. Our capabilities range from index-tracking and active strategies to liquidity management and liability-based risk management solutions.

*LGIM internal data as at 30 June 2016. These figures include assets managed by LGIMA, an SEC Registered Investment Advisor.  Data includes derivative positions and advisory assets.