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Yellen Testifies At Joint Economic Committee Hearing On Economic Outlook
Federal Reserve Chairman Janet Yellen. Photograph by Mark Wilson — Getty Images

Here’s Why What’s In the Fed’s Minutes Is Really Bad for Stocks

May 18, 2016

Labor is striking back, and that's bad news for the stock market.

That's one conclusion to draw from the minutes of the Federal Reserve's April meeting, which show that the Fed is closely watching the rise in the rate of wage growth for workers in America today. Falling unemployment, higher wage growth and the signs that inflation is finally creeping up to the Fed's goal is putting a June rate hike, as well as another increase later this year, firmly on the table. " Most participants judged . . . it likely would be appropriate for the Committee to increase the target range for the federal funds rate in June," The minutes read.

As you can see from the below chart, wages are rising at twice the rate they were back in 2010, and getting close to the rate of increase common in the years before the recession. This is important: Rising wages serve as proof that the labor market is approaching or has reached full employment, and that is one of the Fed's two statutory goals, with the other being maintenance of low and stable inflation.

And the two goals are related. If the labor market has reached full employment, one can expect wage growth to increase, fueling an overall rise in prices. The chart below shows the consumer price index, and the CPI index excluding food and energy costs. While the Fed's stated policy is to keep overall inflation at 2% per year, central bank policy makers pay close attention to this "core" measure of inflation, which is more stable over time and allows the Fed to see the effects of its policy on prices rather than the effects of things outside it's control, like the global oil market glut, which has decimated energy prices.

Fed watchers are trying to figure out why Yellen and Co. would raise rates with inflation so low. And indeed, overall inflation remains far below the Fed's target. But it's rising and relatively high core inflation figure that suggests the Fed is right to think that overall inflation is only being kept down temporarily by forces outside its control.

All of this adds up to a strong case for raising interest rates twice in 2016, or allowing the Fed funds rate to be about 25 basis points higher than the markets expect by year's end, according to Fed funds futures markets.

With the Fed's argument for more than one rate hike in 2016 gaining steam, the market appears indifferent. And that's a recipe for a rude awakening sometime between now and December if Wall Street doesn't start to the take the Fed's inflation warnings seriously.

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