NFP Review: Is the Fed’s Luck Running Out?

Summary

• NFPs again surprised on the upside by a wide margin.
• The release details show the labour market tightened in September.
• This may reflect the end of the 2022-24 immigration surge that allowed for disinflation with strong growth.
• Ahead, the Fed could start facing the traditional employment vs inflation trade-off.

Market Implications

• I still expect the Fed to cut twice in 2024 in line with the market pricing 1.9 cuts, down from 2.7 pre-NFP.
• The continuation of strong wage prints could prompt the Fed to revise its medium-term easing plans, though not likely before the 5 November elections.

Yet Another Large Positive NFP Surprise

The September employment report was very strong overall. Headline NFP was 254,000 against 150,000 expected, and two-month revisions totalled 72,000 (Table 1 and Chart 1). Sam’s model had predicted the upside surprise.

Employment in the household survey increased 430,000 unadjusted and 666,000 adjusted to NFP definitions, narrowing the difference between these series and the NFP (Chart 2). The unusually large difference reflects the undercounting of illegal migrants in the household survey since 2022.

Labour Market Tightened in September

The release details show an increasingly tight labour market:

• Unemployment fell further (Chart 3).
• Unvoluntary (‘for economic reasons’) part-time work fell (Chart 4).
• The spread of African American unemployment over white unemployment narrowed further while that of Hispanics was unchanged (Chart 5).
• The job-finding rate increased sharply (Chart 6).
• The share of unemployment explained by more people starting to look for jobs, as opposed to being laid off, rose further (Chart 7).
• Wage growth at 0.4% was higher than expected, and August wage growth was revised up to 0.5% from 0.4% initially. Wage growth has remained around 3.8% YoY for the past six months (Chart 8).

Against these signs of tightness, hours worked fell further to 34.2 against 34.4 on average in 2019 (Chart 9). However, this reflects a change in worker preferences post-pandemic: full-time work has been falling, and voluntary part-time work increasing (Chart 10). Total hours worked 3mma were unchanged in September.

This tightening may well continue.

Is Lower Immigration Adding to Labour Market Tightness?

Immigration surged after 2021, as shown by Border Patrol encounters with illegal migrants (Charts 11 and 12). In June 2024, however, the administration tightened the border and immigration decreased, though no precise data is available.

The recent decrease in unemployment and acceleration in wage growth could reflect the end of the 2022-24 immigration surge. First, immigration likely drove the recent unemployment increase. All the recent increase in unemployment was in uninsured unemployment, consistent with large inflows of undocumented migrants unable to access unemployment insurance (Chart 3). In addition, because undocumented migrants tend to be low skill, they can take longer to find jobs and could have driven the decline in the job-finding rate after 2022 (Chart 6).

The unemployment rate of foreign-born workers is traditionally below that of native-born workers. Yet from 2022 onwards the former rose above the latter, which is also consistent with a surge in unskilled migrants taking longer to find jobs. Since most undocumented migrants come from Latin America, this could also explain why the spread of Hispanic over white unemployment rose in a tight labour market (Chart 5).

Second, wage growth was unusually low in the recovery, with real wages regaining their pre-pandemic level only in 2023 (Chart 14). Furthermore, the spread between low and high wage growth, which had widened during the pandemic, started shrinking in 2022 and is now below pre-pandemic. This could reflect that low-skill migrants compete mainly with low-wage workers.

If indeed immigration was the main driver of rising unemployment and low wage growth, the labour market is likely to tighten further and wage growth remain high. This is because a re-opening of the border seems politically unsustainable.

Weather Impact Still Signals Underlying Weakness

This time around, extreme weather had no discernible impact on activity. This is shown by a low number of workers not at work because of weather but still on the payroll and therefore counted as employed (Chart 15). However, temporary layoffs remained tightly correlated with this series.

This correlation is higher than pre-pandemic, which signals lower business resiliency. That is, businesses hit by extreme weather are more prone to putting their workers on temporary layoffs than before the pandemic. This signals weaker balance sheets and/or tighter access to credit and is consistent with small business surveys and with the rise in delinquencies on commercial and industrial loans at small banks that tend to lend to SMEs (Chart 16).

Market Implications

In his 30 September Q&A, Chair Powell explained that growth and employment data had been sending conflicting signals, with employment data weaker than growth. Historically, he explained, employment had proven the more reliable indicator. However, following the recent GDP revisions, he was more confident on growth resiliency.

Friday’s NFP release has likely added to Powell’s confidence that this time, the growth data has been more reliable than the employment data. Powell, who has repeatedly stressed immigration’s positive role, is likely well aware of its impact on labour market data – for instance, in the unusual combination of higher NFPs with rising unemployment.

After Friday’s data, I still expect the Fed to stick to its 2024 plan for two additional 25bp cuts, likely at the November and December FOMC meetings. The Fed tends to move slowly and will need more than a couple of data points to revise its policy plans. Markets are currently pricing 1.9 cuts by December, down from 2.7 before the NFPs.

Longer term, the Fed could face tougher policy choices. So far, the Fed has been lucky with positive supply shocks, including the 2022-24 immigration surge, that have enabled disinflation with strong growth. If the immigration surge is over, the Fed could start facing the traditional trade-off between inflation and employment.

If so, continued labour market tightening creates a risk that the Fed will have to reassess its medium-term easing plans. However, such a reassessment is unlikely before the elections, since these could have a deep impact on next year’s macro backdrop.

Dominique Dwor-Frecaut is a macro strategist based in Southern California. She has worked on EM and DMs at hedge funds, on the sell side, the NY Fed , the IMF and the World Bank. She publishes the blog Macro Sis that discusses the drivers of macro returns.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)