The June jobs report may dampen expectations that the Federal Reserve will slash rates by 50 basis points at its next policysetting meeting.
The Bureau of Labor Statistics reported Friday that the U.S. economy added 224,000 jobs during the month of June, blowing past estimates for 160,000 jobs. Strong job gains appear to have fended off worries that labor market growth would slow, painting a slightly better picture of an economy that may need less of a boost from the Fed.
Ahead of the jobs report, federal funds futures contracts were pricing in a 100% chance of a rate cut at the conclusion of the Fed’s July 30-31 meeting, with a 29.2% chance of a more aggressive cut of 50 basis points. The Fed has not moved in increments larger than 25 basis points since 2008.
After the BLS released the June jobs report, that probability dipped to just 5.9%.
“The report adds to the likelihood that the easing will be of 25 rather than 50 basis points,” Jim O’Sullivan at High Frequency Economics wrote Friday morning.
Pockets of the labor market appeared to shrug off concerns that trade issues would weigh on employment. The economy added 17,000 manufacturing jobs in June, despite a downward slide in manufacturing production levels over the past few months as measured in the ISM Manufacturing Survey.
“Net, net, the great American jobs machine restarts its engines after the cautious hiring seen a month ago caused by the escalation in the trade war and rocky financial markets,” Mitsubishi UFJ’s Chris Rupkey wrote Friday morning. Rupkey added that a 50 basis point cut is unlikely.
How much does the Fed care?
Markets had been closely watching the BLS’s report since it is the only round of jobs numbers that the Fed will receive ahead of the July 31 meeting.
But the headline of estimate-beating payroll additions may not mean much to a Fed that has already said it feels comfortable with the tightness of the labor market. Instead, the key data point is wage growth.
In the Fed’s June meeting where it held rates steady but embraced the possibility of a rate cut, Chairman Jerome Powell said the labor market appeared to be “in a good place.” Powell added that the Fed is closer to maximum employment than it has been in the past, despite the fact that the May jobs report leading into that meeting whiffed on expectations.
“That part of the economy is solid,” Powell said June 19.
Instead, the Fed’s focus has been on tepid inflation, which Powell acknowledged as a “weakness.” The Fed has struggled with modestly raising prices, amplifying chatter that the central bank could ease rate policy to stimulate consumption.
The June jobs report will likely do little to change the Fed’s existing thesis that a tightening labor market is not applying pressure on inflation, as some economists would have otherwise expected. Year-over-year wage growth for the month of June was at 3.1%, unchanged compared to the month of May. Flat wage growth means no real increase in income that could spur consumption, meaning that producers are unlikely to face demand-side pressure to raise prices.
A lack of inflationary pressures has fueled the argument for cutting rates, which may explain why markets are still pricing in the absolute probability of at least one cut at the end of the month.
As a result, wage growth appears to have kept the rate cut argument intact, with the brighter payroll additions weakening the case for a more dramatic rate cut.
JPMorgan Chase’s Michael Feroli wrote that the “benign” June numbers are overshadowed by the Fed’s communications over the past few months that gradually opened it up to the possibility of rate cuts.
“Asked why we might say something about ‘insurance’ and ‘risk management’ but the most compelling reason is simply that their signaling has been so strong,” Feroli wrote Friday morning.
Earlier this year, the Fed said it had paused on rate cuts and signaled it would be “patient” on the next move. And in the June meeting, the Fed removed the word “patient” as it committed to “act as appropriate to sustain the expansion.”
The Fed will be closely watched in the coming week as Chairman Powell heads to Capitol Hill next Wednesday and Thursday for back-to-back days of Congressional testimony.
Brian Cheung is a reporter covering the banking industry and the intersection of finance and policy for Yahoo Finance. You can follow him on Twitter @bcheungz.