The US employment report for February removed the last doubts about whether the Fed would raise the fed funds rate by 0.25% at its meeting on 15 March. The vast majority of the data released was excellent. Total payroll employment increased by 238,000, much higher than the average of 187,000 recorded in 2016. This was primarily due to the warmer weather, which allowed the construction sector to add new jobs. Unemployment fell from 4.8% to 4.7%, while underemployment1 went down from 9.4% to 9.2%. The labour force participation rate increased from 62.9% to 63%, and average hourly earnings rose 2.8% over the year, after slowing to 2.5% in January. This rise in hourly earnings in the coming months may be held back by two factors:
- The rate of overall inflation should remain below wage growth. Even if inflation does pick up the pace in February as a result of higher oil prices, we nevertheless expect it to quickly decline again to around 2% in March or April (see chart). This uptick in inflation is likely to be too short-lived for the second-round effects to push wages up higher.
- The labour force participation rate could rise slightly and therefore ease some of the pressure on wages. The participation rate is likely to remain structurally low in the years to come as a result of the ageing population, the lack of necessary skills among discouraged workers, and the extended period of time spent in education. However, it could rise slightly in the coming months, which could ease some of the pressure on wages.
Finally, the employment report also indicated that a growing number of companies are looking to hire more workers in the coming months, which is also encouraging (see chart). However, this indicator is based on surveys. Delays in implementing Donald Trump's stimulus measures could mean that companies become disillusioned, which would limit the actual rise in new hires.
Overall, the employment report was extremely good and further justifies a rise in the fed funds rate on 15 March. However, the US dollar has fallen, and ten- and two-year sovereign rates fell to 2.57% and 1.35% respectively last Friday. The rise in the fed funds rate may already have been priced in by the markets following Janet Yellen's speech at the end of February.
As expected, the European Central Bank did not change its monetary policy at its meeting on 9 March. It kept deposit facility rates at -0.40% and refinancing rates at 0.00% and confirmed that it intended to continue making purchases under the asset purchase programme at the current monthly pace of EUR 80 billion until the end of March and then at a monthly pace of EUR 60 billion from April to December 2017.
In his introductory remarks, Mario Draghi reaffirmed that “a very substantial degree of monetary accommodation is still needed”. However, he did not reiterate that the ECB could, if necessary, use “all the instruments available within its mandate”. At the Q&A, Mario Draghi stated that this omission sought to show that the urgency around deflation risk had faded.
This does not, however, mean that the ECB is concerned about inflationary risks. The latest economic forecasts from the ECB’s economic staff confirmed this. Inflation forecasts for 2017 and 2018 have been revised upwards, but those for 2019 remain unchanged (see table below). This demonstrates that the ECB still believes that the recent rise in total inflation is the result of an oil-price-related base effect and will not push up core inflation.