A blowout US jobs report for July means the Federal Reserve will probably need to keep going with the most aggressive rate rises in decades to curb demand and inflation, economists say.
US employers added 528,000 jobs last month, more than all estimates, the unemployment rate fell to a five-decade low of 3.5 per cent, and wage growth accelerated, the Labour Department said.
“The good news is people can get jobs, the bad news is that inflation remains too high and our number one priority is to get that down,” San Francisco Fed president Mary Daly said on Friday on Fox News.
The data added impetus for the Federal Open Market Committee to raise interest rates by 75 basis points when it meets in September. This matches the moves it made in June and July as it works to cool an inflation rate that is running at a 40-year high.
The strong momentum could also suggest the central bank will need to keep rates higher for longer, contrary to market expectations for rate cuts in 2023.
The labour market is “still sizzling” and that can feed into inflation, said Diane Swonk, the chief economist at KPMG. “This argues for another 75 basis point hike by the Fed.”
Fed chairman Jerome Powell said last week that another large rate increase at the September meeting was possible. However, he gave no specific forward guidance and said future increases would depend on data. Investors interpreted the remarks as a pivot to a less aggressive posture and markets rallied in response.
Fed presidents this week have strongly countered that impression. They argued that the central bank was not intending a pivot away from aggressive increase and that it would take significant news to alter their position.
Friday’s jobs data, while important, was only one of four critical reports that will shape the FOMC decision next month. There will be one more employment print and two consumer-price index readouts, with the July data out on August 10. That report should show slowing inflation because of plunging gas and commodities prices.
“If we get to September with things being where they are today — and that’s a big if — 75 basis points and signals of the risk of another 75 basis points, that’s what you’ll see,” said Mohamed El Erian, chief economic adviser to Allianz.
Ultimately, it is the inflation data, which could also be affected by falling commodity prices and supply-chain improvements, that will decide the September move, said Julia Coronado, co-founder of MacroPolicy Perspectives and a former Fed economist.
The jobs data “would lean in favour of either a 75 basis-point hike or a longer hiking cycle, because we are not seeing moderating job growth", she said.
Ms Daly, who is not a voter on this year’s policy-setting committee, on Friday echoed remarks made earlier this week when she indicated she preferred a 50-basis-point increase in September.
“We don’t need to be too aggressive because we do already see signs of slowing,” Ms Daly said. “Interest rates rise, but it takes a while for them to move fully through the economy.”
“The July jobs report settles it — we are not in a recession. More importantly, it also means the Fed will likely have to hike by another 75 basis points in September. Hiring was broad-based across sectors, and there was no evidence of widespread layoffs," Bloomberg US economists said.
"The labour market has tightened even further from a high starting point. If there was any question of a dovish Fed pivot, this report has quashed it.”
Yields on two-year Treasuries surged in response to the jobs report, a reflection of the expected Fed rates over that period. Market pricing indicated a 75 basis-point increase to the Fed’s key rate is now seen as a more likely outcome at the central bank’s September meeting than 50 basis points.
Mr Powell has described the labour market as “tight to an unhealthy level". He has therefore been seeking a moderation to help to bring demand for products and services more in line with supplies that have been constrained by Covid-19 disruptions.
He and other Fed leaders are worried about the potential for a wage-price spiral, with higher wages feeding into inflation in a cycle that is hard to break.
“This number is so comprehensively strong with a pretty significant uptick in wages,” said Mark Spindel, chief investment officer at MBB Capital Partners in Chicago.
“Companies are paying up for labour. Income matters most. When you look at the breadth of the employment report, and the earnings, this is an enormous tailwind for income.”
The upper bound of the Fed’s benchmark is now at 2.5 per cent. Policy makers will have to ensure the target rate to the region is at 4 per cent and hold it there for some time to quell inflation and price expectations, said Randall Kroszner, a former governor at the central bank.
“You’ve really got to make sure that inflation and inflation expectations have come down and are out of the system,” said Mr Kroszner, an economics professor at the University of Chicago Booth School of Business.
After the jobs report, he said that a 75 basis-point increase “will be on the table for the next meeting".