Another strong labor report

What happened?

The US economy added 311K jobs in February, well below the 504K in January but above expectations and well above the run rate we would expect in a normal economic environment. It is yet more evidence that the labor market remains strong despite the Fed’s ongoing tightening cycle. While hiring was strong, wage growth was surprisingly weak, up 0.2% MoM and 4.6% YoY. The 0.2% MoM number was the weakest in a year, but the 4.6% YoY rate is too high to be consistent with inflation reaching the Fed’s 2.0% target. All in all, however, today’s report is more than strong enough to justify further monetary policy tightening.

Fed hike: How much is too much?

In the near term, the question is whether the Fed will hike by 25 b.p. at their next meeting or by 50 b.p. We don’t think the data makes a conclusive argument for either alternative—especially not with a CPI print in just a few days. The more important message, though, is that the labor market is not cooling in a way that justifies ending the cycle as soon as previously projected. We expect that the Fed’s dot plot will migrate higher, pushing their expected terminal rate to 5.50%–5.75%.

We continue to believe that the data will slow enough in the next few months that the Fed will eventually stop 25–50 b.p. short of that, but that is based on what we believe the data will do, not what it is doing now. As a result, it’s best to treat our forecast as speculative rather than written in stone. And again, let’s see what the CPI print next week shows before talking ourselves into any particular outcome for the next meeting.

Where we think the market is wrong

The market seems to have focused more on soft wage data in February than on the robust rate of hiring. We think that is a mistake. February wage data is a bit unreliable in MoM terms because it is being compared to January, when bonuses are often paid. As a result, this February’s 0.2% MoM increase is the smallest since last February, when wages were flat MoM. That is why the YoY wage number went up to 4.6% even though the monthly print was the softest in a year. The flat wage number last year did not herald the start of a new trend, and we are skeptical that this month’s wage number will either.

There may be an additional distortion as well in that most of the layoffs we have seen of late have been in high-wage industries like tech, which may be lowering the aggregate rate of wage increase by changing the composition of the labor force. In any case, we think it is premature to conclude that wage pressures are durably abating, and we think the market’s response to the softness here is exaggerated. To be sure, wages are cooling, but we think there is too far to go for the Fed (or anybody else) to declare victory just yet.