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Why May’s Jobs Data Complicates Inflation Picture for the Fed

Federal Reserve officials have signaled that they could hold interest rates steady at their upcoming meeting in June — pausing after a string of 10 straight rate increases to assess whether their changes so far are sufficient to slow the economy and wrestle down rapid inflation.

Central bankers may remain on track for that more patient approach even after fresh jobs data released Friday showed strong hiring in May. While employers are still adding workers, other aspects of the report, including a jump in unemployment and a slowing in wage gains, muddled the signal coming from the data.

Investors seemed to think that the complicated employment report could make the Fed’s upcoming decision more challenging — but not so much that it would be a game changer. Wall Street nudged up the probability of a rate move this month after the report, based on financial market pricing. But even so, they still saw only a one-in-three chance of an increase.

Fed officials have raised rates sharply over the past year and a half, pushing them to a range of 5 to 5.25 percent as of last month, up sharply from near-zero at the start of 2022. After all of that adjustment, policymakers have been preparing to stop moving rates up at every meeting. Pausing will allow their policies more time to play out while reducing the risk that policymakers go too far.

Officials want economic growth to slow, because they think a cool-down is necessary to bring inflation back under control. But at the same time, they do not want to tank the economy and cause a more painful pullback than is necessary by overdoing their policy reaction.

Several central bankers have said or suggested that they could leave rates steady as soon as their June 13-14 meeting, allowing them to assess how the economy is reacting to both their policy changes and after recent bank turmoil.

Higher interest rates cool the economy by making it more expensive to take out a loan to buy a house or car, but they take time to have their full effect. Businesses gradually pull back on expansion plans and cut back on hiring as higher borrowing costs take a toll. That should ultimately bring about weaker wage growth and a slower economy.

That is why job market data are so critical: They are a referendum on how well policy is working to cool the economy, and they hint at whether inflation is likely to slow down. Officials have been worried that rapid wage growth could prod companies to keep increasing prices rapidly as they try to prevent heftier wage bills from eating into profits.

Friday’s figures did offer some evidence that the Fed’s policies are working as expected. The unemployment rate climbed to 3.7 percent, from 3.4 percent in the previous reading, and wage growth slowed slightly.

Yet employers added 339,000 jobs in May, vastly more than economists had expected and a pickup from the previous month. And that comes on the heels of several months of rapid job gains.

The conflicting evidence — of softening on one hand and resilience on the other — owed in part to the fact that the jobs report is made up of two different surveys, each of which sent a different signal in May. The job market split-screen could make the Fed’s task in figuring out how to set policy more challenging.

“They have a difficult conversation ahead of them in June,” said Gennadiy Goldberg, a rates strategist at TD Securities.

But abnormally strong hiring alone may not be enough to dissuade Fed officials who want to hit pause. The other details of the report — from hours worked to the jobless rate — confirmed that the economy is cooling, said Julia Coronado, founder of MacroPolicy Perspectives.

The big gain in payrolls “is the anomaly here,” she said. “Everything else speaks to a cooling in the labor market.”

Some Fed officials have previously said that they favor holding off on a rate increase in June. Patrick T. Harker, the president of the Federal Reserve Bank of Philadelphia, said this week that he was “definitely in the camp of thinking about skipping any increase at this meeting.”

And, in a signal that a pause might be imminent, a key official underlined this week that taking a meeting off from rate increases would not mean that the Fed was done raising interest rates altogether.

“A decision to hold our policy rate constant at a coming meeting should not be interpreted to mean that we have reached the peak rate for this cycle,” Philip Jefferson, a Fed governor who is President Biden’s pick to be vice chair of the institution, said in a speech on Wednesday.

“Indeed, skipping a rate hike at a coming meeting would allow the committee to see more data before making decisions about the extent of additional policy firming,” Mr. Jefferson added. The Fed vice chair is traditionally an important communicator for the institution, one who broadcasts how core officials are thinking about the policy path forward.

Fed policymakers will receive additional information about the economy before it must decide on policy: The Consumer Price Index inflation report is set for release the day that their June meeting begins. Given that, and given the conflicting messages in the jobs report, they may avoid revising their plans too sharply.

“It’s just a weird, crazy mix,” Ms. Coronado said of the employment figures.

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Mohammad SHiblu

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