Nonfarm employment “misfired,” Wall Street expects Warsh can wait, and “New Fed Dispatch”: the report is expected to have little impact on the Fed’s assessment—jobs matter less than inflation.

U.S. nonfarm payroll growth unexpectedly "stalled," but market participants and analysts generally believe this employment report has limited impact on the Fed's policy path, because the core variable currently driving the Fed's decisions is inflation, not employment.

The June nonfarm payrolls report released on Thursday, July 2, Eastern Time, showed that nonfarm payrolls increased by only 57k in June, about half the increase expected by economists, and the previous two months' employment figures were revised down by a total of 47k. The unemployment rate in June fell slightly to 4.2%, mainly due to a decline in the labor force participation rate rather than an improvement in hiring conditions.

After the report was released, the market quickly reduced its bets on a near-term Fed rate hike. Interest rate futures showed that the probability of a rate hike in July fell from about one-third before the report to about one-fifth.

Nick Timiraos, the reporter known as the "New Fed Whisperer," stated bluntly that the June nonfarm payrolls report has almost no impact on the Fed's assessment of the economic situation. He pointed out that the weight of the Fed's dual mandate—maximum employment and price stability—has undergone a fundamental shift, with inflation becoming the Fed's urgent concern. In the coming months, price data will have a far greater impact on the policy path than monthly employment data.

Many Wall Street figures share Timiraos's view. They believe that while this nonfarm payrolls report has bought more room for the Fed under Walsh's leadership to wait and see, the direction of inflation remains the true key to deciding whether to raise rates.

"New Fed Whisperer": Employment data takes a back seat, inflation is the Fed's focus

In his commentary after the release of the nonfarm payrolls report, Timiraos said that the June nonfarm data provides little help to the Fed in clarifying the economic outlook. He analyzed that while the overall employment growth data is somewhat soft, after removing monthly fluctuations, the employment trend has actually stabilized—over the past six months, the private sector has added an average of about 88k jobs per month, close to the highest level in two years.

He pointed out that hawkish Fed officials will interpret the above trend and the decline in the June unemployment rate as a sign of a healthy labor market, which aligns with their view that the Fed should focus more on inflation. The more critical question is whether this report is enough to persuade Fed officials who were not inclined to raise rates to change their stance. On this, interest rate futures markets gave a negative answer: CME data showed that after the report was released, the market-implied probability of a rate hike in July was about one-fifth, down from one-third before the report.

Timiraos emphasized that the decline in the labor force participation rate constrains both hawks and doves: Hawks can interpret the contraction in labor supply as a reason that the market can remain tight even in a mediocre employment environment, thereby putting pressure on prices. However, the unemployment rate only fell because people left the labor force, making the signal itself too ambiguous to serve as a strong basis for supporting a rate hike.

His core judgment is that the deeper reason this report cannot change the big picture is that the Fed's dual mandate is no longer balanced.

"Inflation has become the binding concern, in the coming months, price data will have a far greater impact on the interest rate path than monthly employment data."

Media: Report is weak, but the job market has not yet sounded an alarm

June nonfarm payrolls increased by 57k. In the Bloomberg survey, only one economist's forecast was higher than this increase, and the previous two months' data were revised down by a total of 74k. The unemployment rate fell to 4.2%, but the labor force participation rate plummeted to 61.5%, the lowest level in over five years.

Bloomberg Economics research team economists Chris G. Collins, Andrew Sacher, and Stuart Paul commented that wage growth was slightly weaker than expected and earlier data was revised down, but the overall trend remains stable, still above most people's estimates of the employment "break-even" growth rate.

The Wall Street Journal reported that while the single-month employment data for June was disappointing, the average monthly employment growth in the first half of this year was about 92k, a significant improvement from the average monthly decline of 8,000 in the second half of last year.

Some Wall Street figures also believe that this employment report may leave room for the Fed to cut rates. Jason Pride, Chief Investment Strategist at Glenmede, commented that the report shows the job market is entering a "lower gear" operating state, with no signs supporting a rate hike.

Beth Ann Bovino, Chief Economist at U.S. Bank, told Bloomberg, "Fewer people are entering the job market, and fewer people are getting jobs. That's a bad combination."

Wall Street figures: Walsh gains breathing room, inflation remains the decisive variable

Many market participants believe that while this report is disappointing, it does not constitute a major shock to the economic fundamentals, and objectively reduces the urgency for the Fed to raise rates at near-term meetings.

Jeffrey Rosenberg, Senior Portfolio Manager at BlackRock, said in a Bloomberg TV interview, "This is a good report for Walsh and a good report for the bond market," helping Walsh maintain patience.

Brian Jacobsen, Chief Economic Strategist at Annex Wealth Management, commented: "Walsh can breathe a sigh of relief—the labor market is not overheating, and inflation expectations are cooling, meaning the Fed can sit still all summer, needing neither to raise nor cut rates."

Kay Haigh, Global Head and Chief Investment Officer of Fixed Income and Liquidity Solutions at Goldman Sachs Asset Management, said: "We still believe the Fed has a path to stay on hold for the entire year, but if inflation rises further above expectations, the (Fed's monetary policy) committee may start raising rates early."

Bret Kenwell, U.S. Investment Analyst at eToro, pointed out that the weak employment report is not good news, but it may offer a glimmer of opportunity for risk assets—the pressure on the Fed to take a hawkish stance decreases, and the Fed's focus may shift from almost exclusively focusing on inflation back to a dual mandate framework of employment and inflation.

Chris Zaccarelli, Chief Investment Officer at Northlight Asset Management, also believes that while recent market narratives have revolved around inflation, if the employment mandate comes back into view, it will increase the probability of the Fed keeping rates unchanged, which is generally better for the market than a rate hike.

Heather Long, Chief Economist at Navy Federal Credit Union, offered a more macro perspective, pointing out that from the Fed's perspective, "the labor market is stable, and the job market is not exporting inflationary pressures." But for ordinary Americans, "job opportunities are still limited, and inflation is eating up all wage gains."

Market-implied probability of a July rate hike falls to 20%, fully pricing in one rate hike for the year

After the nonfarm payrolls data was released before the U.S. stock market opened on Thursday, U.S. Treasury prices rose, with the two-year yield, most sensitive to monetary policy, falling 5 basis points to 4.13%. The U.S. dollar index fell more than 0.7% during the session, its largest single-day drop in two months. The three major U.S. stock indexes opened higher collectively. Although the S&P 500 and Nasdaq turned back into Wednesday's decline in early trading due to tech stocks like chip stocks turning negative, the Dow held onto its rebound.

According to CME data, the interest rate swap market showed that traders priced in a probability of about 20% for a July rate hike, down from 33% before the report. As of December, the market still priced in a cumulative rate hike of more than 31 basis points, meaning the market fully priced in one rate hike within the year. This rate hike expectation has continued to rise since Walsh's first policy meeting, where officials released unexpectedly hawkish signals.

Seema Shah, Chief Global Strategist at Principal Asset Management, said that slowing wage growth "challenges the narrative of a recent labor market resurgence, but importantly, it further reinforces the judgment that the Fed has almost no pressure to tighten policy."

Christopher Rupkey, Chief Economist at FWDBONDS, pointed out that Fed officials "will clearly not like this employment report," and said that against the lagged impact of the Iran war, the direction of the job market is increasingly difficult to assess.

Notably, Walsh said at the European Central Bank's annual central bank forum on Wednesday that inflation risks have declined in the past four weeks, while reiterating his determination to bring inflation back to the 2% target. Analysts generally believe that the direction of inflation data, rather than fluctuations in employment figures, will ultimately determine the timing of the Fed's next move.

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