The August jobs report on Friday will be great. Here's what to expect

Wall Street is preparing for one of the most important economic releases of the year on Friday: The US Department of Labor will publish an employment report that is likely to have a major impact on the future policy of the US Federal Reserve.

According to Dow Jones, Wall Street consensus expects non-farm payrolls to grow by 161,000 in August and the unemployment rate to fall slightly to 4.2%.

However, more recent data, including a massive downward revision of earlier figures, point to a significant decline in the hiring rate and thus pose some downside risk to this forecast.

In turn, markets are convinced that the Fed will start cutting interest rates in a few weeks. Depending on what Friday's report shows, there is a possibility of a significant cut.

“The labor market has cooled faster than we were originally told, and that is what [Friday’s report] “The Fed is questioning the economy,” said Giacomo Santangelo, an economist at job search site Monster. “What the Fed will do in response, how it will adjust interest rates, that's why we're having this conversation.”

While job growth has slowed for much of 2024, the slowdown was clearly noticeable to the market when a July report showed employment gains of just 114,000. That wasn't even the lowest number of the year, but it followed a Fed meeting that stoked sentiment that the central bank was too complacent in the face of a weakening economy and might keep interest rates high for too long.

What followed was a series of reports suggesting that while the economy is still on its feet, hiring is slowing, manufacturing is slipping deeper into contraction, and it's time for the Fed to start cutting interest rates before it risks overdoing it in the fight against inflation and dragging the economy into recession.

The latest bad news came on Thursday when payroll company ADP reported private job growth in August at just 99,000, the smallest increase since January 2021.

“If they stay too aggressive for too long without easing monetary policy, that could lead to a huge 'R,' and we don't even want to utter that word,” Santangelo said, referring to “recession.” “If this leads to an economic downturn, God forbid, all fingers will be pointing at the Fed.”

Markets therefore expect the Fed to cut the benchmark interest rate by at least a quarter of a percentage point at its next meeting on September 18, with the possibility of a half-percentage point cut. The Fed has not cut its benchmark interest rate by half a percentage point since the emergency cuts at the start of the Covid period.

As futures contracts show, traders are factoring in a series of interest rate cuts that would lower the key interest rate by about 2.25 percentage points by 2025. The key overnight interest rate is currently targeted at a range between 5.25 and 5.5 percent.

Such aggressive easing would not only signal a normalization of interest rates from their 23-year high, but would also reflect a deeper economic downturn. In the short term, however, the downward trend would be more likely to target a labor market still reeling from the aftershocks of the Covid pandemic.

Monster's job search data still has a strong focus on healthcare roles, which are thriving today, but the most commonly used search terms are “work from home,” “part-time,” and “remote work,” reflecting the transition to a hybrid work environment.

According to Santangelo, there remains a significant skills gap in the labor market, although the gap between job openings and available workers has narrowed significantly, from 2:1 a few years ago to around 1.1:1 now.

“The new jobs that are being created are not necessarily suitable for the people who are being laid off. We still have a big skills gap. This is most evident in the health care sector,” he said. “Job seekers are looking for more flexibility, above all. There is also such a gap between employers and job seekers.”

Employees, in turn, are becoming increasingly pessimistic about the situation on the labor market.

The Zeta Economic Index, which uses artificial intelligence to track various economic indicators, shows that concerns about jobs are increasing – even though the economy as a whole is still doing well.

An indicator of labor market sentiment fell 1 percent in August, down 4.6 percent from a year earlier, according to Zeta figures. The indicator's New Mover Index fell 9.9 percent month-on-month, reflecting concerns about job security.

“Despite a stable economy… concerns about the labor market persist. The decline in labor market sentiment, coupled with mixed consumer behavior, suggests continued worker reticence,” said David Steinberg, co-founder and chairman of Zeta Global, which compiles the index. “While the economy is showing signs of a 'soft landing,' continued caution about job security continues to dampen overall economic optimism.”

The Zeta data reflects a recent Conference Board survey that showed a significant narrowing of the gap between respondents who said it was easy to find a job and those who said it was hard to get a job.

Markets will also be keeping an eye on the wages component of Friday's report, although this has become less important recently given easing inflation.

The consensus is that the average hourly wage will increase by 0.3 percent month-on-month and by 3.7 percent year-on-year. Both earnings are thus 0.1 percentage points higher than in July.