Dollar dominance: USD reaction to tight labour market
By Andrew Knoll
07:40, 15 March 2022
The US labour market has been tightening from various sides over the course of the pandemic and recovery, with ‘The Great Resignation’ persisting against a backdrop of falling unemployment, rising wages, increased demand, soaring commodities, decreased productivity, worker burnout, record inflation and the conflict in Ukraine resonating globally.
Initial jobless claims, total employment/unemployment and other labour statistics were revealed for February and a bit beyond, supplementing insights from another month of staggering consumer price index (CPI) inflation figures.
These figures, together with Tuesday’s producer price index data (PPI) and much more, would inform the US Federal Open Market Committee and Federal Reserve Chairman Jerome Powell as they convene and determine the course of monetary policy, with their meeting set to conclude on Wednesday.
Ukraine war dents growth outlook
“Chair Powell’s press conference will no doubt focus on two key issues: how recent events in Ukraine are impacting the Committee’s views on the economic outlook and monetary policy and, relatedly, any updates to how the Fed is thinking about inflation,” wrote a quartet of Deutsche Bank analysts in a macroeconomic strategy note.
“On the former, given the recency of events, Powell is likely to reiterate that the effects on the economic outlook remain ‘highly uncertain’. He could note that developments have already led to tighter financial conditions and that, along with the sharp rise in commodity prices and potential for adverse effects on confidence – which will both weigh on consumer spending, these forces will dent the growth outlook.”
The impact that a tight labour market and related economic conditions have had on the dollar merits examination.
Macroeconomic data combined with market sentiment drives the value and stability of the dollar, and the US along with much of the world has found itself in some uncharted territory over the past two years. While in the near term the safe-haven strategy of forex investors will continue to favour the dollar along with other stable currencies like the Japanese Yen and Swiss Franc, labour and market conditions could have further-reaching effects.
Labour at a glance
Some experts have described a ‘vicious cycle’ of labour shortages leading to untenable work arrangements and inflated wages, which in turn lead to more resignations, personnel shuffling, exits from the workforce, worker burnout and turnover at play in the US labour market. Rising wages – especially when combined with declining productivity as well as rising product and service demand – contribute to inflationary pressures.
For February, the US Department of Labour reported that total nonfarm payroll employment rose by 678,000 in February, and the unemployment rate edged down to 3.8%.
Initial jobless claims for the week ending 5 March, the most recent report, rose after falling unexpectedly the week prior. That continued a trend of decline following an unexpected rise and then a three-month high in mid-January.
For the week ending March 5, on a non-seasonally adjusted basis, claims rose by 22,025 from the previous week to 218,072. There were notable increases in claims in populous states such as California and New York.
Overall, there have often been more job openings than jobless labourers in the majority of states, exemplifying the worker deficit and tight labour atmosphere.
CPI and core CPI both continued their skyward ascents in February, with the headline figure reaching a hair shy of 8% and the core number – which subtracts the cost of food and energy – hitting 6.4%. Both figures continued the now-monthly trend of setting highs since the respective figures were officially tabulated, and both are well above the Fed’s target of around 2%.
For the headline number, the crisis in Ukraine, which broke out at the very end of February, had limited effect and its impact may be felt more saliently in March and perhaps beyond.
Even as the private industry and the federal government have striven to untangle supply chains and adapt to the moving target of pandemic policy and market circumstances, inflation has persisted. Quantitative tapering is likely to accelerate, and the murky future of interest rates looms as the question has become less “if” and more “when and how often”.
“The backdrop to this [FOMC] meeting is unprecedented for a couple of reasons: one, over the past three weeks, Fed funds futures pricing for monetary tightening this year plunged by nearly 50bps (basis points) before completely reversing course and now pricing over 150bps of tightening through year-end,” wrote the DB analysts, who anticipate six rate hikes this year.
“Two, Fed Chair Powell pre-empted the outcome of the meeting by confirming his support for a 25bps hike in his Congressional testimony prior to the meeting,” the analysts added.
The dollar’s position
The US Dollar index (DXY) has climbed to levels unseen since the early 2000s, motivated in large part by investors seeking to limit pitfalls, though risk aversion has not been the only cause of the dollar’s surge.
Powell and the Fed’s eventual and perhaps imminent decision to hike rates has also factored into the dollar’s rise. Along with inflation comes more expensive money in the form of interest-rate hikes that seek to counterbalance inflation. That tends to incentivise foreign exchange and holding.
In turn, rate hikes combined with the dollar’s draw to play-it-safe investors at both the institutional and individual levels could mean that the dollar proves somewhat resistant.
Relative strength indices slipping further into the overbought range and even some dilution of the dollar’s value at the domestic level due to inflation, including that caused by rising wages and a tight labour market, could move the needle less than under typical conditions. Thus, for its policy implications, particularly those related to interest rates, this week’s Fed meeting is magnified even further in its importance.
“On inflation, we anticipate that Powell will stick to his recent rhetoric about inflation being too high with evidence of broadening price pressures. No doubt developments since the January FOMC meeting, including the spike in rent prices and surge in measures of underlying inflation, should intensify those concerns,” the analysts wrote.
“That said, Powell should continue to emphasise that their baseline forecast sees inflation dissipating over time, helped by monetary tightening, some easing of supply constraints and a fading fiscal impulse.”