The increase in non-farm payrolls in March was the largest since late 2024, with the unemployment rate unexpectedly declining. Nick Timiraos of the "New Fed Wire" noted that this data temporarily alleviated the thorny policy dilemma of whether to prioritize job preservation or inflation control. The interest rate swaps market showed that expectations for rate cuts within the year fell from about 4 basis points before the report to nearly zero, while bets on rate cuts for the following year also narrowed.
The robust March nonfarm payroll report prompted the market to reassess the path of the Federal Reserve's monetary policy. U.S. Treasury bonds fell, and yields rose, with traders almost erasing all bets on Fed rate cuts for the remainder of the year.
Nick Timiraos of the "New Fed Wire" pointed out that this data temporarily took the difficult policy dilemma of choosing between job preservation and inflation control off the table.
Nonfarm payrolls increased by 178,000 in March, surpassing market expectations, while the unemployment rate unexpectedly declined, marking the largest single-month employment gain since late 2024. Following the release of the data, the interest rate swaps market showed that expectations for rate cuts within the year dropped from about 4 basis points priced in before the report to nearly zero, with bets on next year's rate cuts also narrowing.
Timiraos believes that the resilience of the labor market has temporarily spared the Fed from facing the difficult choice of "trade-offs between growth and inflation," while potentially further emboldening the camp within the Fed advocating against rate cuts and considering rates as being close to a neutral level.
Timiraos: Labor Market Resilience Temporarily Spares the Fed from Policy Dilemma
Timiraos noted shortly after the report's release that the core significance of this data lies in its temporary removal of a "more challenging issue" from the Fed’s decision-making agenda.
Fed Chair Powell remarked earlier this week that the surge in energy prices triggered by the Middle East conflict created a potential trade-off between inflation and the labor market, but the Fed is not currently facing this situation – a view further solidified by the March nonfarm data.
The decline in the unemployment rate, combined with the rebound after a sharp drop in February employment figures, suggests that the actual state of the labor market may be healthier than previously appeared, at least prior to the impact of the Middle East conflict.
Timiraos stated that the latest data allows the Fed to defer making statements on policy trade-offs, which could strengthen the influence of those within the Fed who have consistently advocated abandoning the bias towards rate cuts in the past two meetings and consider rates as already very close to a neutral level.
Employment Data Dampens Rate Cut Expectations, U.S. Treasury Yields Rise Across the Board
U.S. Treasury bonds fell across the board during the shortened trading session on Friday following the release of the employment report, with yields rising by 3 to 5 basis points. The 2-year yield led the increase, rising 5 basis points to 3.85%, while the 10-year yield climbed to 4.35%.
Prior to the data release, overnight index swaps reflected expectations of only about 4 basis points of rate cuts for the year. Following the report, this pricing essentially returned to zero, with the market also slightly reducing its bets on rate cuts for the following year.
David Robin, interest rate strategist at TJM Institutional Services LLC, stated that the Federal Reserve is "increasingly likely to remain on hold in June and beyond," noting that "this is pre-conflict data, but it still shows a higher baseline."
Scott Buchta, head of fixed income strategy at Brean Capital LLC, believes that this report "should alleviate market concerns about the fundamental state of the labor market before the oil shock," adding that "previous inflation worries had already reset market expectations for the Fed's inaction to higher yields, and this data further solidified that view."
The data is lagging, and the impact of the war has not yet been incorporated.
Despite the strong employment data, several analysts have cautioned about its limited reference value.
Thomas Simons, chief U.S. economist at Jefferies, wrote in a client note: "These figures are essentially backward-looking and may not yet reflect any impact from recent energy price increases or risks related to the conflict with Iran."
Buchta also pointed out that there remains considerable uncertainty regarding how the oil price shock will transmit to the real economy in the coming months: "All costs are rising, while income growth is no longer as robust as before."
Reviewing the policy backdrop, the Federal Reserve cut rates three times last year in response to weak signals in the labor market and paused rate cuts in January this year, citing improvements in employment conditions. January’s employment data was stronger than expected, while February’s figures showed signs of weakness. The rebound in March data has restored overall optimism about the labor market.
Oil prices and developments in the Middle East remain key variables for the market.
Investors' attention has not been entirely focused on the employment data itself, with the situation in the Middle East remaining a key factor influencing the direction of U.S. Treasury bonds. Since the United States launched an attack on Iran at the end of February, U.S. Treasury yields have generally risen alongside oil prices, fueling ongoing market concerns about a resurgence of inflation and the possibility of the Federal Reserve delaying interest rate cuts.
Before the outbreak of hostilities, overnight index swaps had priced in more than two 25-basis-point rate cuts within the year; this expectation was quickly erased afterward, with traders temporarily beginning to bet that the Fed’s next move would be a rate hike; recently, market expectations have shifted to the view that the Fed will keep rates unchanged until 2026.
Moreover, according to Bloomberg, short positions in U.S. Treasuries accumulated earlier have decreased somewhat over the past few trading sessions as traders hedge against growth impacts stemming from short-term inflationary pressures. Demand for downside protection in the Treasury options market has also emerged, with investors preparing for potential gap risks when the spot market reopens on Monday.
Editor/Melody