EXPECTATIONS:

- The consensus looks for 185k nonfarm payrolls to be added to the US economy in May, compared to 211k added in April. That would be in line with the 185k/month pace seen in 2017 thus far.

- The unemployment rate is forecast to hold steady at 4.40%, beneath the FOMC’s NAIRU projection between 4.70% and 5.00% (made in its March forecasts). It would also be firmer than the Fed’s end-2017 forecast for unemployment of 4.50%.

EARNINGS DATA:

- Most of the attention is likely to fall on the earnings data for signs of inflationary pressures. Average hourly earnings (AHE) are seen rising by 0.20% M/M, easing a touch from the +0.30% pace seen in April. On an annualised basis, the pace of AHE growth is seen rising by 0.20 ppts to 2.70%.

- In its latest Beige Book, the Fed stated that “most firms across the districts noted little change to the recent trend of modest to moderate wage growth,” though many firms reported offering higher wages to attract workers “where shortages were most severe.”

- HSBC notes that though wage growth has picked up, as of late, it remains sluggish when compared to previous cycles.

LABOUR MARKET INDICATORS:

- ADP reported 253k private payrolls were added in May. While there are always arguments about the tenuous link between ADP’s data and the official NFP, the better-than-expected print continues to point to solid payroll growth.

- Analysts at Goldman Sachs point out that the ADP has been shooting above the official NFP this year to the tune of around 60k per month, on average. The bank notes that large surprises in the ADP report tend to be predictive of the subsequent nonfarm payroll surprise, and accordingly, raised its forecast for the official print by 10k to 170k.

- On a four-week moving average basis, initial jobless claims have eased a touch to 238,000 from 243,500 going into the previous Employment Situation Report. The headline number came in below 240k for four consecutive weeks before rising to 248k in the latest week.

- Such a correction was to be expected sooner or later, Pantheon Macroeconomics argues, and we shouldn’t be too worried. The consultancy says we are probably witnessing the lowest levels ever when adjusted for population, and as such, the data still is indicative of a healthy labour market.

IMPACT ON FED POLICY:

- With the implied probability of a June hike at around 96%, it would likely take a horrific report to stop the Fed from lifting rates by 25bps. With the rate of joblessness below the Fed’s estimate of NAIRU, as well as its end-2017 target, it would likely look tspanough a big headline miss, so long as wages don’t collapse.

- Many Fed speakers have been paying particularly close attention to wages, observing that they have been a notable weakness.

- Fed’s Kashkari (voter, dove) last month said there may be more slack in the labour market, arguing that stronger wage growth may pull more people back into the labour market, helping participation to rise.

- Fed’s Evans (voter, dove) points out that across the board wage growth has not proceeded as quickly as the Fed would have thought. A sentiment that has also been touched on by the Fed’s Kaplan (voter, slightly hawkish) too.

- Fed’s Williams (non-voter, centrist) went further, and described wages as “stubbornly soft.”

- In terms of Fed hikes, even if wages missed, it may still not be enough to derail the Fed’s hike plans. Pantheon Macroeconomics has argued that in the previous cycle, the Fed lifted rates when AHE were running at 2.60% Y/Y, and it then accelerated sharply to 4.00% within five quarters.

- Given rate changes operate with a four/five quarter lag, Pantheon says the Fed will be aware of the dangers of leaving it too late to raise rates.

- NOTE: FOMC’s March economic forecasts (which are due to be updated at its June meeting in a couple of weeks) forecasts 2017, 2018 and 2019 unemployment at 4.50%, and NAIRU between 4.70% and 5.00%.

- NOTE: In the March projections, the Fed forecast the Federal Funds Rate would end 2017 between 1.25% and 1.50%; it is currently 0.75% to 1.00%, implying the Fed is looking for two further hikes in 2017 (Fed officials have GENERALLY maintained that view in recent weeks).

POTENTIAL MARKET REACTION:

- The market is pricing in just one full hike in 2017, with the implied probability of two hikes slightly better than a coin flip.

- An upside surprise in the Employment Situation Report may contribute to a repricing where the market converges towards the Fed’s forecasts, though with clear doubts about whether inflation can sustainably pick-up towards the Fed’s inflation goal (PCE has been easing as of late), it is unlikely the market and Fed’s view will fully marry.

- However, given past market reactions, a likely expression may be a flattening of 2s10s, a sell-off in the long-end, which could help to lift the dollar.