US reaction: Strong headline, but adds to March 'hold' for Fed

David Page, Senior Economist at AXA Investment Managers (AXA IM), comments on the first US employment report since Trump was inaugurated

Key points:

• US payrolls rose by 227k - the biggest expansion in 6-months, in part boosted by a weather-induced construction rebound
• Unemployment rose to 4.8% with weak household employment and a rise in overall participation
• Average earnings slowed by more than expected to 2.5% from a downward revised 2.8%
• Report suggests little urgency for tighter policy and suggests FOMC should be able to wait until June for the next hike, by which time it would hope to have greater clarity over the fiscal outlook

US non-farm payrolls rose by 227k in January, more than the 180k consensus and with the 237k increase in private payrolls echoing the solid rise in ADP on Wednesday. Both measures recorded their highest since mid-last year (July headline and June private). The increase on the month reflected some rebound in construction work, after a marked winter related slowing in December and accounted for around half of the month-on-month gain. Service jobs accounted for the remainder of the pick-up, but were spread across retail trade, financial & professional, and leisure & hospitality sectors. 

Despite stronger payroll growth, unemployment rose to 4.8% against expectations for it to remain at 4.7%. This broadly reflected a weaker household survey report (where employment fell by 30k on the month). While separate surveys, the two tend to trend together over time and we expect the divergence to be made up over the coming months. Participation also rose in January to 62.9% from 62.7%. Both would suggest unemployment will fall back over the coming months. The underemployment (U6) measure rose to 9.4% from 9.2%.

Average earnings growth also slowed to 2.5% from 2.8% last month (revised down from 2.9%). The drop reflected a 0.1% monthly rise in earnings, compared with a 0.5% rise last January. Markets had expected the impact of minimum wage legislation in January to see monthly gains of +0.3% this time. However, these look likely to have in part driven December’s +0.2% monthly gain, although this in itself was revised lower from +0.4% at the first estimate. Although, we expect earnings to accelerate again next month, the earnings backdrop does not look as strong as a  month ago.

From the Federal Reserve’s perspective, the rise in the unemployment rate and softening in wage growth will be the focus. Both reduce any apparent urgency for tighter policy. Minutes to December’s FOMC saw a Fed clearly concerned about the prospect of a marked undershoot of the unemployment rate. While this risk remains, the increase in unemployment removes the immediacy of this threat, while earnings growth continues to question the tightness of the labour market. While activity indicators remain encouraging, lack of urgency in these data should allow the Fed to leave policy unchanged in March and assess the broader development of the administration’s fiscal package in the run up to the June meeting. We maintain our forecast for a June rate hike. We still consider two hikes the most likely this year, although we concede that risks appear to be tilted towards a third.

Financial markets reacted dovishly: 2 and 10-year government yields fell by 4bps and 3bps to 1.18% and 2.45% respectively. The dollar also softened.

ENDS