Fed's Next Move Hinges on Payroll Data Amid Rate Cut Speculation
As markets await the release of critical non-farm payroll data from the U.S. later today, the U.S. dollar continues under pressure after a private survey showed weaker-than-expected employment growth.
The private sector Employment Change report, published by ADP Research Institute, came in at 99K, falling below both the previous 122K and the market expectation of 145K. The report indicates that employment growth in August has slowed for the fifth consecutive month, reaching its slowest pace since January 2021.
ADP’s report, released one day ahead of the official payroll growth data, offers significant insight. The unexpected slowdown in private sector employment has led to speculation that the payroll growth may also fall short of expectations, causing U.S. Treasury yields to decline and increasing pressure on the U.S. dollar.
A few hours after the ADP data release, Treasury Secretary Janet Yellen remarked that despite some signs of cooling in recent data, the U.S. labor market remains healthy. Yellen added that today's unemployment rate could still be considered very low by historical standards, and that the market continues to generate jobs and remain robust.
Additionally, Atlanta Fed President Raphael Bostic recently stated that inflation and employment are in balance for the first time since 2021. Bostic also emphasized that it is still too early to declare victory over inflation.
Meanwhile, San Francisco Fed President Mary Daly stated that rate cuts are necessary to keep the labor market healthy. These statements revealed that while Fed officials have shifted their focus more toward labor market risks, some have not overlooked the risks posed by inflation.
Recent statements from Fed officials suggest that the Fed is inclined to begin rate cuts at the September 17-18 monetary policy meeting. However, it remains uncertain what size of a cut today's payroll data might convince the Fed to implement.
Market participants are considering the possibility that the decline in the July payroll report was largely driven by temporary factors, and they predict that the August report will show some recovery with a 165K increase.
According to Bloomberg data, the 165K forecast is the lowest median estimate since January 2022. However, if there are no sharp downside surprises in the incoming figures, the cooling in the labor market is likely to be interpreted as normalization. In this case, the likelihood of the Fed opting for a 25 basis point gradual rate cut instead of an aggressive 50 basis point cut may increase.
Interest rate swap data show that the probability of a 50 basis point rate cut at the upcoming Fed meeting is priced at 41%, down slightly from yesterday's 45%. This suggests some softening in aggressive expectations. Markets may be considering the possibility that weaker labor data could be interpreted by officials as normalization.
Another key data point to watch today will be the average hourly earnings. According to a Bloomberg survey, average hourly earnings are expected to grow by 0.3% month-over-month in August, with a slight year-over-year increase from 3.6% to 3.7%. Additionally, wage growth is expected to remain stable in the 3.5% to 3.8% range for the rest of the year.
Recalling Fed Chair Jerome Powell's speech at Jackson Hole, where he stated that the labor market is unlikely to be a major source of high inflationary pressures, it is not expected that average hourly earnings data will significantly impact rate cut expectations.
Therefore, the day's main focus will be the payroll report and the unemployment rate. Given the market's swift reactions to the data, the critical factor for today's pricing may not be how much the Fed will actually cut rates next month, but rather where the market's immediate expectations will shift.
Treasury Yields Provide Tailwind for Gold, Fed Rate Cut Bets in Focus
As speculation around the Fed's rate cuts continues, GOLD fluctuates within the 2,515-2,520 range. Today's data, following the release of private sector employment figures that pressured U.S. Treasury yields, will be critical for determining the direction of gold's movements.
The 2-year Treasury yields fell to 3.72%, marking their lowest level since May 2023. Meanwhile, the 10-year benchmark yields are at 3.70%, the lowest since June 2023.
The ongoing downward trend in yields continues to act as a tailwind for GOLD, which has no yield. However, the direction of this tailwind is closely tied to today’s data. Any data that diminishes expectations of a 50 basis point rate cut could halt gold's momentum.
On the other hand, while U.S. Treasury yields have primarily driven recent movements in gold prices, it is important to note that ongoing geopolitical risks, U.S. election uncertainty, and strong central bank purchases may limit the potential downside momentum.
Australia's Economic Growth Slows as High Interest Rates Bite
Australia's economy continues to feel the effects of high interest rates and stubborn inflation. According to data released on Wednesday, Australia’s Gross Domestic Product (GDP) increased by 0.2% in the second quarter, missing the 0.3% quarterly growth expectations. Compared to a year earlier, the growth rate stood at 1%, marking the slowest pace since the 1990s recession, excluding the pandemic period.
The main driver behind the weakness in second-quarter growth was a decline in consumer spending. Household consumption in Australia fell by 0.2% in the second quarter, shaving 0.1 percentage points off GDP growth. On the other hand, government spending provided the largest contribution, increasing by 1.4%, primarily driven by healthcare programs, and adding 0.3 percentage points to GDP growth.
The annual GDP growth of the Australian economy has slowed significantly from the ten-year average growth rate of 2.4%, as a result of the Reserve Bank of Australia (RBA) maintaining interest rates at a 12-year high to combat inflation. This suggests that the current monetary policy is restrictive enough.
In her speech yesterday, RBA Governor Michelle Bullock emphasized that inflation remains above the target range, reiterating the need for interest rates to stay sufficiently restrictive. Bullock also noted that the RBA is balancing lowering inflation and maintaining low unemployment rates. However, she cautioned that the full employment target cannot be achieved if inflation remains above the target range. Bullock's remarks suggest that the RBA prioritizes inflation risks and may be willing to tolerate a slight rise in unemployment.
While the RBA maintains its hawkish stance, economists highlight the risk that the expected economic recovery in the year's second half may not materialize as long as interest rates remain high.
While most economists do not expect the RBA to cut rates before February 2025, markets continue to price in the possibility of a rate cut in December. The expectations of a rate cut are driven by slowing growth, which will lead to a decline in inflation and unemployment. These expectations could limit the Australian dollar's gains against the U.S. dollar.
OPEC Extends Production Cuts, But Oil Prices Continue to Fall
According to a decision released yesterday, OPEC extended its voluntary production cuts of 2.2 million barrels per day by an additional two months until the end of November 2024. It was stated that the cuts would be gradually lifted every month starting December 1, 2024, but adjustments could be paused or reversed if necessary. However, despite OPEC's decision, crude oil prices continue to decline towards the lowest levels seen since the beginning of the year.
The primary reason for oil prices' decline is the expectation that demand from economies, especially China, the U.S., and the Eurozone, will remain weak in the second half of the year.