A much-stronger-than-expected U.S. jobs report has shifted the odds of when central bank interest rate cuts may begin this year in both the American and Canadian economies, according to pricing in money markets this morning.
Nonfarm payrolls increased by 353,000 jobs last month. The economist consensus was about 180,000. Data for December was also revised higher to show 333,000 jobs added instead of 216,000 as previously reported. Wage growth also rose, a sign that inflationary pressures will continue to be hard to tame.
Monetary policy in Canada is heavily influenced by the giant U.S. economy, and pricing in Canadian credit markets reacts to both domestic and U.S. economic data.
Implied interest rate probabilities in the swaps market, which capture bets for future monetary policy moves, now suggest only about a 25 per cent chance of a Bank of Canada rate cut at its April 10 meeting, down from 36 per cent prior the 0830 am ET jobs report. Earlier this week, prior to Canada releasing an unexpectedly strong gross domestic product reading, those odds were pegged at near 50-50.
A 69 per cent chance of a quarter-point interest rate cut is now priced in for the June 5 policy meeting, down from 82 per cent. The market is putting near-zero odds on a cut at the bank’s next meeting in March.
The market is still pricing in BoC cuts totaling nearly a full percentage point by year-end.
The following table details how money markets are pricing in further moves in the Bank of Canada overnight rate, according to Refinitiv Eikon data as of 0855 am Friday. The current Bank of Canada overnight rate is 5%. While the bank moves in quarter point increments, credit market implied rates fluctuate more fluidly and are constantly changing. Columns to the right are percentage probabilities of future rate moves.
And here’s how interest rate probabilities looked just prior to the 830 ET U.S. jobs report:
Both U.S. and Canadian Treasury yields surged after the closely watched nonfarm payrolls report, as market pricing also shifted for when traders are expecting rate cuts by the U.S. Federal Reserve.
After the jobs report money markets projected the Fed would lower its target rate, currently in a range of 5.25%-5.5%, by 123.3 basis points by year-end, down from 140.3 bps just before the data was released.
Futures pared bets for a rate cut in March to 20.5% from 36.5% just before the report, and slashed the likelihood of a 25 or 50 bps cut in May to 62.9% from 91.6%, according to CME Group’s FedWatch Tool.
The yield on 10-year Treasury notes was up 11.1 basis points to 3.974%, one day after reaching a new low for 2024 so far. The two-year U.S. Treasury yield, which typically moves in step with interest rate expectations, was up 17.6 basis points at 4.370%.
Canada’s two-year Treasury was up about 15 basis points to its highest level in three days.
Here’s how economists are reacting in written commentaries to today’s strong U.S. labour report:
Derek Holt, vice-president and head of Capital Markets Economics, Scotiabank
A very strong job market and economy are more than acceptable trade-offs to not expecting rate cuts from the Federal Reserve any time soon. In fact, if this keeps up, we can’t rule out the return of rate hikes. Either way, as I have argued for a long time—but with rising conviction—I think markets continue to price rate cuts to be far too early and too large.
The US job market entered 2024 by smashing expectations, especially all the stridently worded headlines that were sure the numbers would disappoint if not even turn negative because of weather and annual revisions. Combined with the early read on Q1 GDP ‘nowcasts,’ this overall set of estimates pours cold water on any Fed easing in March or May and is slamming the bond market.
Q1 GDP arrives on April 25th, six days before the May 1st FOMC decision and if it lands anywhere close to current tracking then it would be impossible to expect a cut by that meeting and improbable by the June FOMC.
One set of numbers doesn’t change everything, but it seriously challenges Chair Powell’s message that the labour market is rebalancing in disinflationary fashion. If Q1 GDP tracking continues to be hot, then it may return Powell to what he said in the November press conference when he said “Evidence of growth persistently above potential or that labour markets are not coming into balance could warrant further tightening.” I do not have a good explanation for why he sounded more dismissive toward GDP growth this time around.
Scott Anderson, chief U.S. economist, BMO Capital Markets
This is the strongest monthly job gain since January of last year. Adding in the 126k net upward revisions over the past two months, nonfarm payrolls jumped by a whopping 479k. Nonfarm payroll growth has been accelerating in the last three months, with the three-month moving average popping to an unsustainable 289k pace, calling into question the payroll growth moderation trend we saw over much of the past year. The job gains, if not revised down in future releases, will definitely put a dampener on early rate-cut prospects. The Fed was right to be cautious in signaling near-term rate cuts at this week’s FOMC meeting. The details of the report looked just as strong as the headline job gain. We saw solid broad-based net job gains from professional and business services (+74k), education and health care (+112k), retail trade (+45k), manufacturing (+283), and government (+36) in January.
The unemployment rate stayed low at 3.7% (actually slipping a bit to 3.661%). Economists had been looking for an increase to 3.8%. ....
Average hourly earnings also came in “hot” up 0.6% in January up from a strong 0.4% in December, pushing the year-on-year growth rate up to an uncomfortable 4.5%. One minor area of weakness, hours worked fell to 34.1 from 34.3 in December, and aggregate work hours fell for a second straight month.
Bottom-line: Much needed U.S. labor market rebalancing appears to have gone in reverse over the last few months. There’s really no sign of a slowdown at all in these latest numbers from the BLS. In fact, the January jobs report and revisions were so good, analysts will likely be pushing up their Q1 GDP growth estimates and markets will be pushing out their initial rate-cut forecasts to later in the year, more in-line with our current forecasts for the Fed.
Royce Mendes, managing director and head of macro strategy at Desjardins Securities
The vast majority of jobs created in January were in private sector services industries, which is in stark contrast to the December ISM Services reading. Despite the surge in hiring, though, hours worked curiously declined during the month.
The blowout employment numbers came alongside a spike in wage growth. Average hourly earnings rose 0.6% in January, taking the annual rate up to 4.5%. Revisions also now show more momentum in the pace of wage growth late last year. Separately, the unemployment rate remained steady at 3.7%, not far off the lows for this cycle.
What makes this news even better is that consumer price inflation has been cooling off in spite of the strength in hiring and wages. The numbers are consistent with our forecast that the Fed doesn’t need to rush into a rate cutting cycle any time soon. As a result, we’re retaining our call that US central bankers wait until June to begin easing policy.
Ali Jaffery, economist with CIBC
Bang! What a way to start the new year as today’s January jobs report, particularly the revisions released with it, show the US labor market has much stronger in the recently than we believed. ... This is an unambiguously hotter labor market than Fed thought it had on its hands. With the focus more firmly on its employment mandate, the FOMC will look at today’s release positively as it hopes to engineer a soft landing of the economy now that price stability is clearly in sight. But given that the labor market does not appear to cracking under the weight of restrictive policy, it does not need to rush into this. We expect the Fed to begin easing policy in the second half of this year.
Claire Fan, economist with Royal Bank of Canada
The first employment report in 2024 confirmed that labour market activities are still incredibly heated in the U.S. Counts of job openings have continued to move lower but remain elevated. The strong early data for 2024 points to strong momentum in consumer demand late last year potentially persisting into early 2024. And the acceleration in wage growth will add to concerns at the Federal Reserve about whether the recent run of softer inflation data will be sustained. Fed Chair Powell in the press conference already largely ruled out a March rate cut, and expressed the need to see more data before growing convinced that the progress with inflation is here to stay. We continue to expect additional rate hikes are unlikely but expect the Fed to wait until closer to mid-year before pivoting to outright cuts.
Thomas Feltmate, senior economist with TD Economics
Strong employment readings for the month of January have become a recurring theme post-pandemic. Not only did job growth handily beat expectations, but job gains were also reasonably widespread as evidenced by the private-sector diffusion index rising sharply to 65.6 – the highest level since January 2022. Monthly wage growth also accelerated by the fastest pace in nearly two years, pushing the year-on-year measure up to a five-month high.
Despite the incredibly strong employment report, post-payrolls market pricing for a May cut (60% priced) has barely budged – likely the result of Powell having recently downplaying the impact of strong economic data. Although the labor market remains hot, productivity (measured as output per worker) continued to firm through the fourth quarter of last year, helping to restrain the inflationary impulse from higher wage growth and posing less of a threat to the inflation outlook. From that perspective, a further easing in inflationary pressures over the coming months could provide the FOMC enough reassurance that inflation remains on a sustainable path back to 2%. This suggests that the Fed could argue that a May rate cut is still justified despite the ongoing labor market strength.
David Rosenberg, founder of Rosenberg Research
The divergence between the message in the Payroll Survey and that of the Household Survey has reached an extreme: in the past five months, nonfarm payrolls have boomed +1.28 million jobs while employment in the Household poll has shrunk -350k. The only other time in the past we have seen a divergence this wide was back in the spring and summer of 2020. Something to ponder as bond yields spike and first-half Fed easing expectations ooze out of market pricing.
With a file from Reuters