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Will the NFP Go Back to Beating Estimates?

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Tomorrow is the release of the all-important July NFP numbers. This comes in the context of the Fed most recently saying they will be data-dependent on the forthcoming rate decision. Employment is the second most important data point to the Fed’s rate decision, so what happens tomorrow will likely define the trajectory of the dollar.

The consensus is that the US added 200,000 jobs in July, slightly below the 209,000 reported in June. This would put job creation back in line with “normal” numbers, potentially meaning that the era of labor market recovery in the post-pandemic is over. The unemployment rate is expected to remain unchanged at 3.6%.

Where the focus could lie

The unemployment rate is important to the Fed because of its second mandate to maintain full employment. However, with the unemployment rate below the structural level, the concern is related to inflation. With a tight labor market, the cost of labor is expected to rise. In fact, President Joe Biden recently tweeted about how wages have finally turned around to exceed inflation.

Average hourly earnings could now become the focus as the Fed looks to bring inflation down to its 2% target. Higher wages increases demand and raises costs for production, which can translate into inflationary pressure. Other major economies such as the UK and Europe already acknowledge that inflation is having these “second level” effects.

Future moves

A persistently tight labor market might mean that inflation could start increasing again in a few months, and force the Fed to act. It’s highly likely the Fed would try to pre-empt this inflation, potentially choosing to raise rates ahead of inflationary pressures. The Fed has been criticized in the past for being too slow to raise rates ahead of the current inflation spike. That might influence its willingness to try to get ahead of a possible increase in prices.

All this boils down to is how the market might push around the dollar. Lately, the greenback has been fluctuating following Fitch’s unexpected downgrade of the US sovereign rating. Yields have gone up as investors worry about a potential recession making it difficult for the US government to finance its debt. Ironically, this uncertainty has led to a stronger dollar.

How the data might influence things

An unexpectedly strong jobs number might reassure investors that the US economy is doing well. There have been mixed signals on the economy, with Q2 GDP growing above expectations while measures of industrial activity have declined. Also ironically, reassured investors might lead to a weaker dollar as they move out of safe havens and buy up more risk in anticipation that the economy will continue to perform.

There is some evidence for a better-than-anticipated result after ADP figures more than doubled expectations. But, ADP has lost its reputation for predictability. JOLTs reported early in the week were lower than expected, which opens the possibility that NFP could as well. Weaker job numbers could reinforce the dominant narrative through most of this week of uncertainty about the economy. With yields moving higher, the dollar could gain strength even as the possibility of more hikes from the Fed might diminish.

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