Weaker-than-expected job growth in the month of September prompted investors to sell the US dollar (USD), driving it to a two-year low against the euro (EUR).
According to today's delayed September non-farm payrolls (NFP) report, only 148k jobs were created last month, and while the unemployment rate dropped to a near-five-year low of 7.1%, down from 7.3%, the market ignored the improvement, choosing instead to hone in on the sluggish pace of job growth.
Not only did the US dollar weaken, but ten-year Treasury yields fell from 2.6% to 2.54% following the NFP report. The S&P 500, on the other hand, climbed to fresh record highs on the belief that today's report increases the likelihood for tapering of asset purchases by the Federal Reserve in 2014 as opposed to this year.
The Fed's Top 2 Priorities
Last month, the central bank said it is looking for more broad-based economic improvements instead of just a drop in the jobless rate because the decline was not consistent with the performance of the rest of the economy. This tells us that lower unemployment without stronger payrolls is not the right mix for the Fed, as the former is being distorted by labor force participation, which is at a 35-year low.
Average hourly earnings growth also slowed to 0.1% from 0.4% the previous month. The only good news was that the 24k upward revision to the August report took away some of the sting.
However, the problem for the Fed is that job growth slowed in September, and the next two reports will be distorted by the US government shutdown. The October numbers will very likely be weak, but the November numbers should be strong as Americans return to work and US corporations unfreeze their expansion and investment plans.
The next jobs number will be released in little over two weeks, and we will get to see how much damage the political impasse had on the US economy. The October report will be particularly vulnerable to revisions, and for all of these reasons, the Fed will find it very difficult to legitimately pull the trigger on tapering before the end of the year.
As Chicago Fed President Charles Evans said yesterday, it could take a few months to sort out the US labor market picture. However, tapering will need to happen soon if the unemployment rate continues to fall at its current pace, because the 6.5% target could be reached in the first half of next year, if not sooner.
Why the Dollar's Not in Deep Trouble
For the time being, we expect interest rates to remain suppressed into December, putting continued pressure on the US dollar. If tomorrow's Eurozone PMI reports are strong, EURUSD could rise above 1.3800.
Elsewhere, USDJPY reversed its earlier slide following EURJPY buying, although we expect USDJPY to revisit 97 before the end of the year. The dollar is likely to remain weak, but we don't anticipate a full-fledged collapse because tapering is still set to begin in early 2014.
Ultimately, the timing hinges upon whether or not new Fed Chairperson Janet Yellen feels the Fed can wait to see how debt negotiations play out in January/February before reducing asset purchases.
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Original headline: 2 Job Numbers the Fed Needs to See
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