After strong non-farm payrolls, how long can tight monetary policy and a strong dollar last?

Core Viewpoint: The momentum from a 100bps rate cut and enterprises competing for exports jointly drove the unexpected strength of the U.S. labor market in December, and it is difficult to see obvious data flaws from the data segmentation structure. After the data was released, traders pushed back the expectation for the first rate cut to September, with U.S. Treasury yields and the U.S. dollar index soaring. However, the market's selective disregard for the unexpected decline in hourly wage growth, the drop in U.S. stocks, and the rapid rebound in gold indicate differing views among traders about the future. In the short term, the CPI to be released on January 15 and Trump's inauguration speech on the 20th are expected to continue the narrative of strong economy → tight monetary policy → strong dollar, with high U.S. Treasury yields remaining difficult to lower; in the medium term, non-farm payrolls and CPI from February to May may continue to weaken, and the strong dollar trade may quickly reverse, with rate cuts potentially being brought forward to March; in the long term, Trump's policy mix still implies greater uncertainty and upside risks for U.S. inflation.

December Non-Farm Employment: Not only did the apparent data significantly exceed expectations, but a closer look at the employment structure also shows no flaws. In December, the U.S. added 256,000 non-farm jobs, with expectations of 165,000, and the previous value was revised down from 227,000 to 212,000, with a total downward revision of 8,000 jobs for the previous two months. Meanwhile, the unemployment rate fell from 4.2% to 4.1%. The strength of December's non-farm data is reflected not only in the apparent increase in non-farm jobs and the unemployment rate but also in the data structure showing no obvious flaws: ① New jobs under different measures have significantly increased. In December, the CES survey reported an increase of 256,000 non-farm jobs from the employer side, while the CPS survey reported an increase of 478,000 jobs from the resident side, with the adjusted CPS new jobs under the unified CES measure at 102,000;

Under the non-farm private measure, ADP, CES, and CPS reported increases of 122,000, 223,000, and 500,000 jobs respectively, with no occurrence of the "one rises while the other falls" situation seen in previous employment reports (for example, non-farm growth but a significant drop in CPS employment). ② Improvement in resident employment and unemployment structure. From the employment structure perspective, among the 478,000 new resident jobs in December, private non-farm full-time and part-time jobs increased by 87,000 and 247,000 respectively, leading to the first positive year-on-year growth in full-time employment since February 2024, with the latest figure recorded at +0.33%. From the unemployment structure perspective, among the 235,000 fewer unemployed in December, 164,000 came from permanent unemployment (unemployed for more than 27 weeks), which was the largest contribution to the decrease in unemployment this month, with the proportion of permanent unemployed falling from 26.27% to 24.79%. ③ Data quality continues to improve. The feedback rate for the CES survey in December was 68.4%, up from 67.4% previously, showing significant improvement compared to the previous feedback rates of 50-60%. Meanwhile, the revision for the combined data of the previous two months was -8,000, indicating a small revision magnitude, corroborating the improvement in data quality.

Of course, the December employment data still has a few weak points: ① Manufacturing employment has significantly weakened, while the service sector remains the mainstay. Employment in education and healthcare, leisure and hospitality, and trade and transportation increased by 80,000, 43,000, and 49,000 respectively, remaining the main contributors to December's employment growth, while manufacturing employment decreased by 13,000 month-on-month, with durable goods manufacturing down by 16,000 The main drag is that after last month's vehicle strike ended, manufacturing employment continued to show weakness. ② The employment diffusion index fell month-on-month. The one-year non-farm employment diffusion index recorded 59 this time, down from the previous value of 62; the one-month and three-month diffusion indices also showed varying degrees of decline, indicating that the number of industries with reduced employment still exceeds those with employment growth; ③ While the supply-demand gap has widened, hourly wage growth has slowed. In December, total labor demand increased by 737,000, total supply increased by 243,000, jointly driving the supply-demand gap from 718,000 back up to 1,212,000. Under supply-demand equilibrium, December's hourly wage increased by 0.28% month-on-month, expected at 0.3%, previous value at 0.37%; year-on-year +3.93%, expected +4.0%, previous value +3.97%; production & non-management hourly wage increased by 0.2% month-on-month, previous value +0.3%; year-on-year +3.76%, previous value +3.87%. The widening supply-demand gap is largely influenced by the increase in job vacancies, and its sustainability remains to be observed; the weakening hourly wage growth is structurally mainly dragged down by the automotive and IT industries, and the market (especially the U.S. stock market) has not traded the weakening of hourly wage growth.

Labor Demand: A 100bps rate cut and export rush drove strong employment in December. ① The aftereffects of the 100bps rate cut. Since September 2024, the Federal Reserve has cumulatively cut rates by 100bps, and the easing of the restrictive level of interest rates has been reflected in recent December economic data, including the recovery of interest-sensitive real estate sales, core durable goods orders exceeding expectations, and the service sector PMI employment index maintaining high prosperity, combined with the boost to corporate optimism from Trump’s policies, jointly driving the recovery of employment demand. ② The export rush drove employment growth in some industries. Among the 256,000 new non-farm jobs in December, retail trade added 43,000, with employment in the apparel and entertainment goods industries closely related to exports to China increasing by 23,000 and 10,000 respectively. The characteristics of these industries also cross-validate with some details in the recent U.S. ISM manufacturing report and inventory data: the December ISM manufacturing PMI inventory component showed that U.S. manufacturing companies began to accelerate inventory accumulation out of concern for potential tariffs (Figure 14); the latest inventory data shows that the year-on-year growth rate of inventory in the U.S. apparel industry is accelerating from the bottom (Figure 15).

Market Reaction: Irrational U.S. Stocks and Gold. Strong employment → Tight monetary trading drove the U.S. dollar index and U.S. Treasury yields to soar, but there are two illogical aspects in market trading: ① The unexpected decline in hourly wages was not traded, which should have partially alleviated market concerns about inflation stickiness, but evidently, major assets selectively ignored this. The market may be overly worried in the short term about Trump's expulsion of illegal immigrants reinforcing wage inflation stickiness. ② The continued decline of U.S. stocks and the rapid rebound of gold. The combination of strong employment + weak hourly wages should logically lead to an upward trend in U.S. stocks and a downward trend in gold, but the price reactions of these two assets to non-farm data are clearly contrary to the fundamentals, highlighting the risk of subsequent corrections for both Market Strategy: Current expectations for interest rate cuts are extremely pessimistic, and the reversal of the strong dollar narrative may occur in February. In the short term, although the expectations for tight monetary policy and a strong dollar have become crowded after the strong non-farm payrolls in December, a reversal may be difficult in the short term: The U.S. CPI for December, to be announced on January 15, is currently expected by analysts to be +0.3% month-on-month and +2.9% year-on-year. On January 20, Trump will deliver an inaugural speech, and TrumpDeal 2.0 (expansionary fiscal policy + tight monetary policy → strong dollar + high interest rates) is expected to continue to strengthen the current strong dollar trading theme. In the medium term, the dynamic impact of financial conditions and economic demand still exists, and U.S. Treasury yields may begin to reverse again in February due to weakness in non-farm payrolls and CPI. For example, the non-farm payroll data for January, to be released in early February, will face annual revisions and base adjustments, and the 2024 non-farm payrolls may be revised down by 1 million. In the long term, Trump's policy mix indeed implies greater uncertainty and upward risks for U.S. inflation. In summary, we believe that the Federal Reserve's monetary policy pace for the year should be weak first and then strong, entering a phase of weak dollar trading from February to May, with interest rate cuts anticipated in March and June, but a potential pause in rate cuts in the second half of 2025.

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Author of this article: Lu Zhe and Zhang Jiawei from Soochow Securities, Source: Macro Fans Zhe, Original title: "【Lu Zhe & Zhang Jiawei】After Strong Non-Farm Payrolls, How Long Can Tight Monetary Policy and a Strong Dollar Last? — Commentary on December 2024 U.S. Non-Farm Data"

Lu Zhe S0600524110003

Zhang Jiawei S0600524120013

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