The Federal Reserve is set to press ahead with plans to cut rates despite an unexpected surge in jobs growth in January, with a $7tn immigration-led economic boost and fewer job vacancies convincing officials the labour market is unlikely to trigger inflation.
Fed officials said this week that last Friday’s payrolls data, which showed the US economy added 353,000 jobs in January — more than double the expected amount, justified their patience in keeping borrowing costs on hold at a 23-year high of 5.25 to 5.5 per cent.
But most officials think they remain on track to cut rates later this year, with inflation likely to fall even if the US economy continues to add jobs.
“The Fed is still all about inflation,” said Larry Meyer, an economist at LHMeyer and former Fed governor. “Neither a strong labour market, nor strong growth will dissuade them from cutting rates as long as the data on inflation is good. And it does not have to be better, just as good as over the last six and 12 months.”
Unemployment has remained close to historical lows at just 3.7 per cent, despite a sharp fall in inflation over the past year. That has surprised many economists, who thought rate-setters could not contain price pressures without it costing many US workers their jobs.
The Fed expects the labour market to cool this year, but it believes that — unlike in the past — a sharp rise in unemployment will not be necessary to bring inflation to their 2 per cent goal. One reason why is a big influx of foreign workers into the US, helping to contain wage growth and, ultimately, prices.
While immigration has become a politically charged topic, with lawmakers on the Hill locked in a months-long debate over migrants entering the country via Mexico, the impact of a post-pandemic wave of new arrivals has been positive for the US economy.
The Office for Budget Responsibility, Congress’s independent watchdog, said on Wednesday that the wave would boost output by $7tn over the next 10 years, with the US labour force likely to have 5.2mn more people by 2033 compared with estimates taken in February 2023.
“More workers mean more output, and that in turn leads to additional tax revenue,” Phillip Swagel, the director of the CBO, said at a press briefing on Wednesday, adding that the $7tn boost would return $1tn to government coffers.
The influx of workers would also help lower labour costs, the CBO said.
US employers blamed a pandemic pause in processing employment-related visas in 2020 and 2021 for escalating a labour shortage that forced them to raise wages and offer incentives, such as cash signing bonuses and college tuition, to recruit workers.
The shortage remains the most pronounced in blue-collar sectors that rely heavily on foreign-born workers including restaurants, hotels, landscaping and construction.
Fed officials, including chair Jay Powell, acknowledge a greater supply of workers from 2022 onwards, both from immigration and more labour force participation, has helped contain wage growth.
On Thursday, Thomas Barkin, president of the Richmond Fed, credited immigration as one factor that had helped alleviate pressures in the labour market.
Adriana Kugler, a Fed governor and labour market expert, said on Wednesday that the “trade-off between inflation and unemployment”, where disinflation spurs unemployment, appeared to have broken down of late.
“There is no doubt that immigration is contributing importantly to labour supply,” said Krishna Guha, vice-chair at Evercore ISI, adding that it was also “part of the reason why the US has been able to deliver this remarkable combination of strong growth, strong employment, falling inflation and cooling wage growth”.
Some officials, such as Boston Fed president Susan Collins, are concerned that the rise in workers was a post-pandemic one-off and will not last.
While Congress has, as yet, failed to agree tougher rules at the Mexican border, with the Senate on Wednesday rejecting the latest proposal after it faced opposition from likely Republican presidential nominee Donald Trump, any deal could weigh on migrant flows.
Business groups, including the Chamber of Commerce, the National Restaurant Association and the National Retail Federation, are lobbying Congress to increase quotas for employment visas and the cap on the H-2B visas used by seasonal workers in industries including agriculture and seafood processing.
US-born workers are retiring from the labour market at a faster pace than they are ageing into it, making increasing legal immigration crucial to their efforts to recruit enough workers to grow their businesses, they say.
Swagel acknowledged that the CBO’s immigration projections were “a key source of uncertainty” and said his watchdog would prepare an economic analysis of any immigration legislation that is passed.
Fed officials this week also pointed to more lukewarm readings from other surveys, such as the JOLTs data for job openings and quit rates, as evidence that the labour market is cool enough to enable them to lower their benchmark federal funds target later on this year.
The Atlanta Fed’s tracker showed pay growth fell back in January — though, at 5 per cent, wage deals are still outpacing pre-pandemic norms. The Employment Cost Index, seen as the Fed’s preferred measure of pay growth, also ticked down between the third and fourth quarters of last year.
Loretta Mester, president of the Cleveland Fed and an FOMC voter, said on Tuesday that she still planned to cut rates three times — in line with what she thought back in December.
While January’s jobs report showed the labour market was “remarkably resilient”, Mester said other indicators, such as the ECI, pointed “to some moderation”.
“At this point, I suspect we will see further moderation of wage growth, with a gradual slowing in job growth and an uptick in the unemployment rate over the year from its very low level,” she said.
“On net, January payrolls offer more reason not to rush, but no need to panic and throw the steering wheel hawkish,” said Guha. “This is not the start of 2023 when they had a similar labour market surprise but with hot inflation and wage data.”