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Today’s jobs report is the kind that should see confidence building at the Fed. If confirmed in the next two CPI reports and March’s payrolls, then the Fed should remain on track to orchestrate a soft landing.
At least that is what markets took away from today’s data. Admittedly, the headline nonfarm payrolls number indicated 275k jobs added in February, which looks hot at first glance. But this was accompanied by a -167k downgrade to the last two months, with January’s previously strong 353k reading being revised down by 124k to a much less spectacular 229k. Crucially, the details of today’s report showed softening across the board too. Not the kind that triggers recession fears, however, but rather confirms the US economy remains on track to bring inflation back to target while recording strong growth.
As a result, the Fed should take more confidence in today’s data, raising the risk of a May rate cut; a scenario markets assign just a 30% probability to.
Two key questions were front of mind heading into today’s release. First, was the strength seen in January a result of seasonal factors, or was it indeed reflective of resurgent labour demand. Second, even if today’s report did deliver a hot headline print, would this even matter for markets, given recent commentary from Fed Chair Powell expressing increased confidence that the Fed is “not far from” having sufficient confidence that inflation is moving sustainably to 2% to begin cutting rates. The first of these was dealt with by the downwards revision to January’s figure. Whilst 275k jobs marks an acceleration in employment growth in February to above the average of 230k recorded over the past 12 months, the overall level of US employment remains below that assumed prior to the release as the +75k surprise to expectations was more than offset by downwards revisions.
Looking at the breakdown of job gains reinforces this point. The healthcare and government sectors added most jobs at +67k and +52k respectively, with the latter in particular hard to argue as being inflationary. Granted the food services category added 42k jobs too. But this comes on the back of three months of little change, and with the similarly wage sensitive retail trade adding an underwhelming +19k jobs, this is hardly indicative of roaring consumer demand that could lead a resurgence in services inflation.
We would note that the headline rate of job gains is still above levels normally thought to be consistent with sustainable 2% inflation, at least when viewed out of context.
But here the details of the report matter. The unemployment rate rose to a two-year high of 3.9%, up from 3.7% in the prior release, suggesting that the labour market continues to normalise. As does the uptick in weekly hours worked, which rose to 34.3, an improvement on the January print of 34.2, itself upwardly revised by 0.1. Continued declines in temporary help workers, a rise in permanent layoffs and a shift towards part-time employment also signalled waning demand for labour moving forward, which given the flatlining in the participation rate, should now be key for sustaining lower wage growth.
Even so, the broad picture painted by these details is of a labour market that has moved into better balance. Most significantly for the Fed, it is also a labour market that failed to generate wage notable pressures in February, with average hourly earnings rising by just 0.1% MoM. This offsets the downwardly revised 0.5% print seen in January to leave the growth in wages tracking at 4.3% YoY. Such a print is now just a smidgen away from the 4% annual wage growth broadly seen as consistent with the Fed’s 2% inflation target, with a further drop likely next month as a 0.5% rise from March 2023 drops out of annual calculations.
As we noted in advance of today’s report, the market reaction was likely to be highly asymmetric. A hot print was unlikely to undermine Powell’s dovish congressional commentary, leaving the risk of traders pricing out Fed easing bets looking limited to us.
In contrast, confirmation that the US labour market was indeed cooling, consistent with Powell’s message, would see further buy-in for Q2 easing expectations and trigger a dollar selloff. As such, despite a hot payrolls print, it is unsurprising to see the greenback slide 0.25pp on the softer details of the report. Traders are continuing to cautiously accelerate Fed easing bets, with a June rate cut briefly fully priced following the release, albeit clearly the strength of the NFP reading is clearly causing concern in some quarters. In our view though, there is increasingly little reason for the Fed to maintain rates at their current restrictive levels, a point now seemingly shared at the Fed. If the slowing price pressures indicated by today’s jobs market report can be confirmed in the upcoming CPI prints too, we expect that the current slow grind higher in pricing for a cut at May’s meeting could become a mad rush for traders. This would likely extend the dollar’s decline in the near-term, leading markets to further move against our near-term forecasts, largely because the dovish shift in Fed easing would coincide with bemusing higher for longer guidance by peer central banks. We didn’t call it “the hard yards” for no reason!
Author:
Nick Rees, FX Market Analyst