Why the US Federal Reserve is poised to push ahead with rate hikes even as job gains slow

The US Federal Reserve is on track for half-point interest rate increases in June, July and perhaps even beyond as fresh job market data on Friday showed no sign the US economy is buckling under the pressure of high inflation and rising borrowing costs.

A Labour Department report early on Friday showed US employers have added an average of 400,000 jobs each month since March, down from the nearly 600,000-per-month average pace from January 2021 to February of this year.

It is a downshift the Fed has reason to welcome, as it tries to tighten monetary policy fast enough to bring inflation down, but not so fast it triggers anything too drastic.

Cleveland Fed president Loretta Mester called May's job gains "strong" but said the slowing trend was "a good thing".

"We want to see some moderation in both activity in growth and in the labour market to cool things off a little bit," Ms Mester told CNBC. "It's too soon to say that's going to change our outlook, or my outlook, for policy: the No 1 problem in the economy remains very, very high inflation."

Ms Mester said that unless she sees "compelling" evidence of falling inflation — now running at 40-year highs and more than triple the Fed's 2 per cent target — she will probably support yet another 50-basis point increase in September.

Stocks fell on Friday and traders bet the Fed will end up lifting the policy rate to a range of 2.75 per cent to 3 per cent by the year's end.

President Joe Biden said the data showed the economy was holding up, even as the labour market shifted to a more sustainable pace of job growth.

"We aren’t likely to see the kind of blockbuster job reports month after month like we had over this past year. But that’s a good thing. That’s a sign of a healthy economy,” Mr Biden said.

Many economists expected an even sharper slowdown, as tech firms announced layoffs or hiring freezes amid diving company stock prices, and on the assumption that consumers would begin scaling back given high inflation and rising food and energy bills.

"Payroll growth settled into a lower gear this spring but talk of an imminent recession is nothing more than fearmongering," wrote EY-Parthenon chief economist Gregory Daco, noting that the US is now less than one million jobs short of the peak level for non-farm payrolls hit just before the onset of the coronavirus pandemic.

"Anecdotal evidence of hiring freezes and layoffs at tech companies is misleading with overall job openings still near record-highs and layoffs at record-lows."

The annual pace of wage growth slowed slightly and the labour force grew by an additional 330,000 workers, both developments that Fed policymakers hope will continue.

The May jobs report is one of the last high-profile data points Fed officials will carry into the upcoming meeting of the Federal Open Market Committee on June 14 and 15, when they are expected to increase the federal funds rate by half a percentage point, to a target range of between 1.25 per cent and 1.5 per cent.

Absent a major shock, policymakers are anticipated to approve another half percentage point increase in July.

And on Thursday, Fed vice chairperson Lael Brainard said it was “very hard to see” a case for pausing rate hikes in September, although policymakers may opt to slow the pace of hikes to a quarter-point per meeting if inflation begins to ease.

The pace of annual growth in average hourly earnings has fallen now for three months running from 5.6 per cent in March to 5.2 per cent in May, but that is higher than Fed officials feel is consistent with a 2 per cent inflation rate, even accounting for productivity gains.

"It will take a slowdown ... to closer to 4 per cent before the Fed can claim it is making significant progress," said Michael Pearce, senior US economist at Capital Economics.

The behaviour of the US job market is central to the Fed's hope to steer the economy out of a current bout of high inflation without a significant increase in the unemployment rate.

Hiring in May continued across industries, with some now pressing well beyond their pre-pandemic employment levels, and even leisure and hospitality firms climbing steadily back as spending shifts towards travel, entertainment, and other in-person services.

Data from time management firm UKG has shown hourly work activity slowing for 10 of the past 11 weeks, with individual worker data suggesting some of that came as stressed shift workers got relief from the overtime demands of last year, said UKG vice president Dave Gilbertson.

It was the sort of developing trend, he said, that could produce what the Fed says it wants – a gradual cooling of the labor market that begins to cut into the massive number of job vacancies without causing large layoffs.

"We are not seeing a wild drop-off. We are seeing a slight drop-off each of the last three months ... If companies are having hourly workers work just a few fewer shifts each of the past three months, that adds up to be something like the early stage of a soft landing in the labour markets,” he said.

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