Strong non-farm payrolls deliver "rate hike" ammunition, will CPI prompt the Federal Reserve to pull the trigger? The September rate hike script faces a crucial test.

As the recent escalation of military strikes between the U.S. and Iran has rapidly heightened geopolitical tensions, the already elevated international oil prices and shipping costs for oil and gas continue to rise. This drives market expectations for inflation in the U.S. and the global economy to intensify. However, against the backdrop of deteriorating geopolitical situations and climbing energy prices, coupled with significant obstacles to global energy shipping, the upcoming U.S. CPI data for August may directly determine whether the Federal Reserve will return to a path of interest rate hikes at the September FOMC monetary policy meeting. Remarks from Fed Chair Waller and another Fed governor, Kashkari, indicate that the burden of proof has shiftedonly a substantial unexpected drop in CPI could prevent the Fed from resuming rate hikes. It is noted that the U.S.-Iran conflict is extending beyond military installations to impact commercial shipping, with the energy market reassessing supply disruption risks. Following the U.S. attacks on three Iranian oil tankers, the Iranian Revolutionary Guard has also claimed it will target vessels escorted by the U.S. military. During the Asian trading session on September 7, international crude oil prices continued to trend upward, with Brent crude futures reaching as high as $97.35 per barrel and WTI crude at $92.28. Prior statistics up to September 4 indicated that Brent crude had risen nearly 60% this year. The macroeconomic implications of this round of impacts not only include gasoline directly pushing up overall inflation but also the sustained pressure on corporate profits and end-user prices due to rising costs of diesel, transportation, and insurance. As hostile actions between the U.S. and Iran escalate, market concerns regarding prolonged disruptions in energy transport through the Strait of Hormuz and another critical energy transport passageBab el-Mandebare also amplifying. These two maritime chokepoints are forming compounded risks. On September 1, Kpler recorded only four bulk carriers passing through the Strait of Hormuz, far below the average of about 13 over the past ten days; the Bab el-Mandeb Strait also had only 18 vessels that day, lower than the average of about 24. The ten-day daily average of bulk carriers in the Strait of Hormuz has dropped to approximately ten, the lowest since May. From a longer-term perspective, the pre-crisis daily traffic volume through the Strait of Hormuz was about 130-140 vessels, while it fell below 10% of normal levels at the height of the crisis; overall shipping volumes in the Red Sea and Bab el-Mandeb dropped by over 50% due to attacks by Houthi militants. Shipping costs for energy continue to rise, which could push the price system further upward. For instance, the route from Saudi Arabia's Yanbu port to southern China typically takes about 19 days via the Bab el-Mandeb Strait; circumventing through the Suez Canal, the Mediterranean, Gibraltar, and the Cape of Good Hope extends the journey to about 48 days, increasing the transit time by nearly a month, while fuel costs soar from $1.26 million to $2.87 million, plus an additional $1 million for Suez Canal fees. The daily benchmark earnings for very large crude carriers (VLCCs) transporting oil from the Middle East to China soared to $423,736 in the first half of this year, and shortly thereafter, the earnings from the TD3C route have approached $585,000 per day, near historical highs; the war risk premium for transiting the Strait of Hormuz has also surged from 1%-3% of the hull value to 7.5%-10%. Against the backdrop of rising energy inflation and shipping costs, the U.S. non-farm payrolls data for August showed unexpectedly strong growth of 162,000 jobs, while the unemployment rate held steady at 4.1%, diminishing the Fed's justification for delaying tightening due to employment concerns; however, the average hourly wage rising by 3.1% year-on-year does not support equating employment resilience with uncontrollable wage inflation. Wallers hawkish signals from Jackson Hole and Kashkari's stance that as long as inflation continues to improve, we can remain patient make the upcoming PPI on September 10 and CPI on September 11 key tests before the September 15-16 monetary policy meeting. The burden of proof may shift from "Why raise rates?" to "Why is the Fed still not choosing to raise rates?" A hot CPI report may force the Fed to increase rates in September! With reduced employment concerns, inflation becomes the final hurdle test for rate hikes. The latest published strong non-farm payrolls data have alleviated concerns over rate hikes, but inflation performance will determine whether the market further prices in tightening risks. If inflation does not cool sufficiently, the market will need to reassess not just a rate hike but also the risk of maintaining high rates for an extended period. Fed Governor Christopher Waller has intentionally or unintentionally directed market focus to the forthcoming August consumer price index (CPI) report set to be released on September 11. He noted that this data will significantly influence his monetary policy decisions. He stated that if inflation continues to make progress towards the Fed's 2% target, he would support maintaining the current policy and is willing to remain patient. Therefore, this weeks report could send a clear signal to the market: at the Fed's meeting on September 16, whether the market needs to fully price in the probability of a rate hike, meaning a 100% probability. Undoubtedly, the stronger-than-expected August employment report means the Fed's argument for temporarily delaying rate hikes due to weakness in the labor market is losing its persuasive power. When considering Chair Waller's comments from August 28 at Jackson Hole, unless the CPI report is significantly below expectations, it will be challenging for the Fed to refrain from raising rates in September. In summary, the burden of proof may have shifted. The Fed may no longer need data to justify the reasonableness of a rate hike in September; instead, it may require the CPI report to provide a rationale for not raising rates. As a result, this weeks CPI report will carry an unusual significance, as it may become the final piece missing for the Fed's rate hike in September. The market already anticipates that this report will be relatively hot, which means that even if the data meets expectations, it could be enough to keep the possibility of a rate hike in September as a realistic option. The bond market is pricing in advance, and the Fed's communication mechanisms and expectation management models will face a test. Wall Street economists unanimously expect that the U.S. overall CPI will rise by 0.4% month-on-month in August, compared to 0.1% in July, while the year-on-year increase will remain at 3.4%. Meanwhile, core CPI is projected to rise by 0.2% month-on-month, unchanged from July, while the year-on-year rise is expected to fall from 2.5% to 2.4%. Projections from prediction markets like Kalshi align closely with this. However, it is worth noting that this week's data carries a significant risk of exceeding expectations, as inflation in the services sector has noticeably picked up in August. The ISM services report shows that the prices paid index increased from 70.3 in July to 72.6, which is also higher than June's 67.7. Historically, changes in the ISM services prices paid index often accompany shifts in CPI data. Energy prices may further exert upward pressure. Increases in gasoline prices will directly push up the overall CPI, while rising diesel prices may elevate transportation costs, eventually transmitting to broader economic sectors. The yield on two-year U.S. Treasury bonds may already be indicating the direction of monetary policy. Currently, with a yield of about 4.4%, the two-year Treasury bond suggests that the market expects a tighter monetary environment in the future, while the effective federal funds rate remains far below this level. Since the 1990s, nearly every cycle has seen the two-year Treasury yield follow inflation changes, while the effective federal funds rate often lags behind the two-year Treasury yield, ultimately aligning with it and sometimes surpassing it. Thus, with the two-year yield currently near 4.4%, this historical relationship implies that the Fed may still have multiple rate hikes ahead. Of course, Waller only has one vote, and Waller has made it clear that the Fed wants to move away from traditional forward guidance. This raises another question: if officials clearly tell the market that policy will depend on subsequent data releases, and the CPI meets or exceeds expectations but the Fed still does not raise rates, what will happen? At that point, the issue will not only be about the decision in September but also how the market should interpret the Fed's communication. Strong non-farm payrolls provide rate hike ammo; will CPI pull the trigger on September rates? Bank of America pushes for a rate hike, while Citigroup calls for a pause. A strong non-farm report means the Fed is better positioned to raise rates, but it does not imply that a hike is mandatory. The addition of 162,000 jobs in August, along with upward revisions of 55,000 for the previous two months, alleviates concerns over a sharp weakening labor market; however, with hourly wages rising by 0.3% month-on-month and 3.1% year-on-year, no wage pressures suggest an uncontrollable inflation scenario. The latest pricing by interest rate futures traders shows the probability of a Fed rate hike in September has risen to about 60%, indicating that non-farm payrolls merely strengthen the hawkish argument, but have not replaced inflation assessments. The consensus among top institutions on Wall Street, like BlackRock, BMO, and Citigroup, is that while obstacles on the employment side have eased, the suspense around policy still depends on whether both CPI and PCE inflation improve collectively and sustainably enough, rather than just relying on a single non-farm report. Bank of Americas strategist team predicts core CPI will rise by 0.22% month-on-month, aligning core PCE at about 0.24% month-on-month and 3.4% year-on-year, which they believe is sufficient to support a September rate hike; meanwhile, Citigroup forecasts core CPI to rise by 0.184% month-on-month, and year-on-year to fall to 2.3%, leaning towards maintaining rates unchanged. The two firms' month-on-month core CPI predictions diverge by 0.036 percentage points, but rounding to one decimal place both show as 0.2%. Thus, the real divergence on Wall Street regarding whether the Fed will return to raising rates in September lies in the specifics of price components, how they map to PCE data, and how Fed officials interpret sufficient progress in inflation. Some economists maintain that the policy anchor remains PCE inflation data, viewing CPI as important but incomplete evidence. The weight of housing data in CPI is relatively high, and a slowdown in housing can significantly reduce core CPI; PCE also encompasses more healthcare expenditures paid by employers and government, potentially reflecting different trends. Waller specifically points out that certain non-market service prices rely on estimates, which may overstate the contribution of these sectors to perceived underlying inflation pressures. For strategists at Citigroup, strong employment has raised the threshold of inflation evidence required to maintain patience; CPI remains a key input for policy judgment rather than an automatic trigger for rate hikes. Only if core service prices and subsequent PCE data continue to lean hot might it substantively push the Fed towards a rate hike path. Bank of America argues that moderate inflation will reinforce a pause in rate hikes, lead to a rebound in Treasury yields, and weaken the dollar; a resurgence in inflation may prompt the Fed to raise rates at the September 15-16 meeting, pushing real rates and the dollar higher.