"The May employment report is consistent with continued rebalancing in the US labor market, not deterioration. The print supports our expectation for the Fed to remain patient delaying the first rate cut until enough data has suggested sufficient progress on the inflation front," says Yelena Shulyatyeva, Senior US Economist at BNP Paribas.
Key Messages
- Significantly stronger-than-expected payrolls in May coupled with an increase in the jobless rate is consistent with continued rebalancing in the US labor market, not deterioration.
- The report will reassure Fed officials that they can remain patient in waiting to see sufficient progress on inflation, in our view.
- Despite the unemployment rate rising, the speed of increases in the jobless rate is insufficient to trigger the Sahm rule.
Fed to remain in patience mode
The May employment report is consistent with continued rebalancing in the US labor market, not deterioration. The print supports our expectation for the Fed to remain patient delaying the first rate cut until enough data has suggested sufficient progress on the inflation front. We continue to see the first cut in December, with resilient inflation and election uncertainty forestalling an earlier move.
Industry details remain solid
With the headline payrolls number rebounding to 272k (from 165k prior), the early Easter argument that some strength in hiring was pulled forward into March seems to have some merit. Both the three- and six-month moving averages ran close to 250k as of May, suggesting the labor market continues to create jobs at a robust pace.
Healthcare remained the backbone of growth in employment, and we see potential for more catch-up to the pre-Covid trend. Government hiring bounced up as expected to 43k from a weak 7k prior, while leisure/hospitality added 42k versus 12k prior, returning to a pace more consistent with the recent acceleration in spending on services.
Beveridge Curve points to higher unemployment risks
Despite a sizable positive surprise on payrolls, the latest data does raise some yellow flags with the second consecutive increase in the unemployment rate to 4.0% in May. The JOLTS data for April, which revealed a sharp decline in the job openings rate, corroborates this concern. The data showed that the unemployment/vacancy relationship has normalized to the point at which further declines in the vacancy rate could lead to more appreciable increases in unemployment. In technical terms, the labor market appears to have reached an inflection point – a flatter portion of the Beveridge curve – where falling vacancies mean higher unemployment. A decline in the vacancy rate closer to 4.5% (currently 4.8%) could be consistent with joblessness rising above 4%.
Speed of increase in unemployment worth watching over coming months
Continued rebalancing in the labor market will likely mean continued increases in the unemployment rate. However, the speed of the rise in joblessness is what matters. The Sahm rule says the economy goes into a recession when the three-month moving average of the unemployment rate rises by 0.5pp or more relative to its low during the previous 12 months.
Technically, the unemployment rate rising to 4.1% or above in June would trigger this rule – not something we would expect. An outsized 408k drop in the household survey in May will likely reverse in June. However, a more gradual rise to a similar level of unemployment by the end of the year – our current forecast – would fall short of triggering this threshold, because it would lift the ‘low’ level of the unemployment rate over the previous 12 months, particularly as we move further away from the average rate of 3.5% in H1 2023.
From the Interest Rate Strategy Team
After a week of short-covering, UST valuations looked stretched from a fundamental perspective going into the May payrolls report, in our view. A stronger-than-expected outcome did not deliver for those expecting a catalyst for pricing earlier and deeper rate cuts, and we believe that this was necessary to extend the decline in yields. Overall, the last couple of weeks were notable for increased volatility, but ultimately yield ranges held. Looking to next week, markets are again confronted with UST supply (3y, 10y, 30y), which may exert upward pressure on yields but will also contend with May CPI and the FOMC decision (both on Wednesday). In the coming months, we forecast gradual moderation in the US economy and expect recent yield ranges to persist into early summer. Investors are likely to refocus on positive carry in the near term after a bout of post-Memorial Day volatility.
Article by Yelena Shulyatyeva, CFA, Senior Economist, US , and Timothy High, Senior Rates Strategist, US - BNP Paribas
