How bad do this week's nonfarm payrolls have to be for the Fed to cut rates by 50 basis points?

This Friday's U.S. Non-Farm Payroll report is becoming the focus of investors' attention, as its result may directly determine whether the Federal Reserve will take a more aggressive 50-basis-point rate cut action in September.

According to the latest analysis by Steve Englander, Global Head of FX Research at Standard Chartered Bank, for the possibility of a 50-basis-point rate cut to be put on the table, the market needs to see the August increase in non-farm payrolls (NFP) below 40,000 and the unemployment rate rising to 4.4% or higher.

According to a Bloomberg survey, economists’ median forecast for the increase in August non-farm payrolls is 75,000. If the actual data drops below 40,000 as predicted by Englander, it would constitute a major downside surprise and would almost certainly trigger bets in the market that the Fed will take a more decisive easing policy.

A deeper issue is that some analysts have strongly questioned the accuracy of the official data from the U.S. Bureau of Labor Statistics (BLS), believing that it may continuously overestimate actual employment growth.

Regardless of the numbers released this week, a debate on the real situation in the labor market is brewing, and the upcoming annual benchmark revision may force the Fed to face an employment market that is weaker than it appears on the surface.

The Key Threshold for a 50-Basis-Point Rate Cut: Data "Bad Enough"

The market generally believes that a weak employment report will increase the likelihood of Fed rate cuts, but to trigger a 50-basis-point cut, the data needs to be "bad enough."

Steve Englander’s analysis provides the market with specific quantitative indicators. He pointed out that if the increase in August non-farm payrolls is less than 40,000, the market will begin to price in expectations of a 50-basis-point rate cut.

Analysis shows that, at the current stage, the equilibrium growth level of the U.S. job market is about 50,000 to 100,000 people per month. Therefore, any reading below 40,000 will be seen as a clear signal of a substantial slowdown in the job market.

Of course, non-farm data must be interpreted in conjunction with the unemployment rate. The market’s expectation for the August unemployment rate is 4.3%, but Englander believes that merely reaching the cycle high of 4.3% is not enough to guarantee a 50-basis-point cut, unless new job creation is also particularly weak.

However, if the unemployment rate further rises to 4.4%, then unless the new employment data is exceptionally strong, the likelihood of a 50-basis-point rate cut will increase significantly. Conversely, to entirely dispel market expectations of a rate cut, the increase in new employment would need to reach above 130,000, along with upward revisions to previous figures.

The "Trap" Behind the Data

Beyond setting specific thresholds, Englander also expressed strong disagreement with how the market and policymakers currently interpret labor data, believing that these widely watched indicators are highly misleading and underestimate the extent of weakness in the labor market.

One controversial point is the unemployment rate. In the past 14 months, the official unemployment rate has remained within the narrow range of 4.1% or 4.2% for 13 months, showing no clear trend. But in Englander’s view, this is a misleading signal.

He pointed out that during the same period, the employment-to-population ratio has been steadily declining, which is more likely to indicate actual weakness in the labor market. Although current data is far from the sharp deterioration seen in 2008-2009 or 2020, the downward trend is already quite apparent.

Another more controversial view is directly aimed at the non-farm employment data itself.

Englander believes that the "birth-death adjustment" model used by the Bureau of Labor Statistics in its data calculations seriously distorts the results. The model is intended to estimate the net employment change brought about by newly established and closed businesses, but he estimates that over the past year, the model may have overestimated job creation by about 70,000 jobs per month on average.

The Annual Benchmark Revision of Non-Farm Payroll Data Is Crucial

Based on this criticism of the "birth-death adjustment" model, Englander estimates that in newly established companies, actual monthly new job creation may not exceed 20,000.

This means that the officially released non-farm payroll numbers need to be viewed with "discount." For example, a seemingly robust non-farm payroll report with an announced number of 100,000 may actually reflect real employment growth closer to 30,000. Even if the number reaches 170,000, real growth may only be about 100,000, barely hitting the threshold to maintain market equilibrium.

This continued systematic overestimation will eventually need to be corrected to reflect reality.

Analysis points out that the annual benchmark revision of non-farm payroll data, to be released by the Bureau of Labor Statistics on September 9, may be a key event. If there is a significant downward revision at that time, it will confirm the market's suspicion of data overestimation, which may become another catalyst for the Fed to adopt more forceful easing policies.

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