Reality Check: Payrolls and the Fed's Next Move
Today's non-farm payroll report could play a pivotal role in influencing the future path of US interest rates. The ADP employment report, published earlier this week, revealed private-sector employment rose by only 77,000 in February—significantly below the forecast of 148,000. This stark shortfall, particularly if replicated in today's payroll release, could raise serious questions about hiring momentum and overall economic resilience. While the decline in yesterday's initial jobless claims might suggest some stabilisation in the labour market, these figures have yet to capture the anticipated government layoffs tied to the DOGE incentive scheme, leaving the true state of employment somewhat obscured.
Trade policy remains an additional concern. Structural imbalances are evident in the US trade deficit, which reached $131.4 billion in January and has exceeded $100 billion in several months over the past year. While some of this deficit stems from front-running of tariffs, it also reflects an overvalued dollar and declining competitiveness, compounded by China’s manufacturing dominance and persistent US energy dependence. Tariffs, rather than directly reducing imports, tend to shift supply chains and act as an additional cost burden, thereby constraining economic growth.
The convergence of weak ADP figures, a sharply lower forecast for GDPNow—which currently predicts the US will contract by 2.4% in Q1 2025—and rising tariffs and geopolitical concerns all point to a weakening economic environment. Even if today's payrolls do not show the sharp slowdown evident elsewhere, it will not alter the fact that growth expectations are weakening significantly across many sectors of the US economy.
For the Federal Reserve, these intertwined signals—weak job growth, evolving GDP projections, higher than desired inflation and trade imbalances—complicate the policy outlook. Should further data confirm a weakening labour market, especially with delayed government job cuts finally showing up, the pressure for additional rate cuts could mount. Conversely, if employment data proves more resilient, the Fed may opt for a more cautious approach.
Contrary to the expectations of many, the recent surge in US Treasury yields has proven to be short-lived, confounding many market participants. The 10-year yield, which reached 4.79% in mid-January, has since retreated to 4.25%. This rally in Treasuries traditionally signals an expectation of slowing economic growth and a potential shift in monetary policy. However, an additional dynamic is at play. During economic slowdowns, reduced demand for cash from corporations and consumers can lead to a surplus seeking yield in the bond market, increasing demand for safe-haven assets like Treasuries.
Therefore, while the labour market is a lagging indicator, any weakness revealed in today's non-farm payroll report would reinforce the evidence of a slowdown observed in other economic indicators. Although concerns over tariff-induced inflation may have previously delayed policy adjustments, we believe the bond market has yet to fully price in the extent of the economic softening now becoming apparent.
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