Weak US payrolls data upended markets going into the weekend, with a rethink of Fed policy now firmly on the cards. Conditions had been fairly sedate through President Trump's new tariff announcements and the Federal Reserve's latest meeting, but cracks emerging in the US labour market drove US and European equities to sharp declines. The US dollar gave back gains from earlier in the week alongside significant declines in Treasury yields, led by the front end of the curve as traders moved to price in two Fed rate cuts by year end. Despite advancing on Friday, the AUDUSD ended the week sharply lower on expectations that soft June quarter inflation data will tip the RBA's hand into further rate cuts.
July's nonfarm payrolls report blindsided both markets and the Fed, indicating that conditions may be much less robust than thought. After the Fed left rates unchanged in the 4.25-4.5% range this week, Chair Powell's message in the post-meeting press conference was that policy was 'well positioned' in a modestly restrictive zone, with inflation a bit above the 2% target and labour market conditions assessed as broadly consistent with its maximum employment objective. The Fed's preferred inflator measure - the core PCE deflator - held a 2.8%yr pace in June.
July's nonfarm payrolls report - while only one data point at this stage - was a surprise as employment rose by 73k on the month, disappointing expectations for a 106k result and pushing the unemployment rate up from 4.1% to 4.2%. Labour force participation was a tick lower at 62.2%. The major shock however came as gains to payrolls in May and June were reduced by an enormous 258k. This lowers the 3-month average change in payrolls to just 35k - its weakest momentum since the pandemic. Weak payrolls growth comes in a backdrop of slowing economic growth. June quarter GDP growth was better than expected at 0.7%q/q, but that mainly reflects tariff-related volatility. Across the first half of the year, GDP growth was 0.6%, well below its 1.4% pace from the back half of 2024.
In the euro area, GDP growth was 0.1%q/q in the June quarter, levelling out after growth of 0.6% in the March quarter. Export orders to the US had boosted growth through the March quarter to front run Trump's tariffs on European-made goods. The EU-US trade deal, although resolving some uncertainty for businesses, has slapped a 15% tariff at the US border on imports from Europe. July's inflation estimate came in at an unchanged 2%yr on a headline basis - a touch above the 1.9% consensus - while the core rate held at 2.3%yr. Traders currently see the ECB leaving rates on hold through year-end. It is a different story in the UK, with the Bank of England expected to cut rates by 25bps at next week's meeting.
Confirmation of ongoing disinflation in Australia effectively paves the way for a reluctant RBA to cut rates at its upcoming meeting on August 11-12. The Monetary Policy Board surprised markets with its decision to hold the cash rate at 3.85% last month, opting to wait for this week's quarterly CPI data rather than moving on the higher frequency but more volatile monthly series. In the key outcomes, both headline (0.7%) and core CPI (0.6%) came in 0.1ppt below market expectations in the June quarter (full review here). Annual inflation is comfortably inside the 2-3% target band, slowing from 2.4% at 2.1% on a headline basis (vs 2.2% expected) and from 2.9% to 2.7% on core (vs 2.7%). Importantly these outcomes are also consistent with the RBA's forecast track, which Governor Bullock has said is a prerequisite to a further reduction in the cash rate.
A number of effects are swinging headline inflation around, including electricity rebates that are unwinding and volatile fuel and food prices, so the focus for the RBA has been on the core rate. Here, core inflation has been running at an annualised 2.6% pace through the first half of the year - essentially where the RBA wants it to be on the midpoint of the target band. That is backed up by services inflation - a persistent thorn in the RBA's side - easing from 3.7% to a 3-year low of 3.3%. Speaking post the release, RBA Deputy Governor Hauser said the inflation data were welcome but stuck to the 'gradual and cautious' line around lowering rates.
Also of note in Australia, retail sales turned out a 1.2% splurge from households in the midyear sales in June (vs 0.5%), the strongest rise in spending since March 2022, as the 75-year-old survey came to the end of the line this week on a high (see here). Dwelling approvals also surprised upside posting an 11.9% rise for June, driven by the volatile higher density segment; approvals, however, remain well contained and declined across the quarter (see here).
