Weak Nonfarm Data Reshapes Rate Hike Expectations: Fed Policy Path May Stay on Hold for Long

Abstract

The US June nonfarm payroll data released in early July 2025 came in significantly below market expectations, triggering turmoil in global financial markets. Following the data release, the rate futures market quickly repriced, pushing the expected timing of the Fed's first rate hike from Q4 2025 to December 2026, further strengthening the consensus that the Fed's tightening cycle has ended. While some officials, led by Minneapolis Fed President Kashkari, still warn about inflation stickiness, mainstream investment institutions such as Goldman Sachs and CICC generally judge that the federal funds rate is likely to stay at current levels for the year. This article systematically analyzes the underlying logic and potential impact of this policy expectations shift from four dimensions: employment data interpretation, market pricing mechanism evolution, internal Fed divisions, and institutional forecasts.

I. Employment Data Misses: Signals of Labor Market Cooling

Data released by the US Labor Department showed that nonfarm payrolls increased by 182,000 in June, well below the market expectation of 220,000 and also below the average increase of 256,000 over the previous three months. At the same time, the unemployment rate edged up to 4.1%, the highest level since December 2021, while average hourly earnings growth slowed to 3.8% year-over-year, down 0.2 percentage points from the prior month. These indicators collectively point to one fact: the US labor market is returning to equilibrium after several years of tightness.

By industry, job growth slowed notably in low-value-added sectors such as leisure and hospitality, retail trade, and temporary help services, while healthcare, government, and construction maintained relative resilience. This divergence indicates that the slowdown in labor demand is not a broad-based recession but a structural adjustment in the normalization process. Notably, the labor force participation rate remained unchanged at 62.5%, suggesting that the slowdown in job growth is not due to increased labor supply but a direct result of reduced hiring demand by companies.

II. Market Pricing Shifts Sharply: Rate Hike Expectations Move from 'When' to 'Whether'

After the nonfarm data release, the federal funds rate futures market underwent its most dramatic repricing in years within just a few hours. Previously, the mainstream market expectation was that the Fed would start a new rate hike cycle in September or December 2025, but traders have now pushed the first rate hike timing to December 2026, with the expected full-year rate hike in 2026 only 25 basis points. This means the market has fully priced in the assumption that the Fed will keep rates unchanged for the foreseeable future.

Behind this shift is a cognitive change in the market from doubt to acceptance of the "soft landing" narrative. In the previous months, despite repeated inflation data, the continued strength of the labor market had been a key pillar supporting rate hike expectations. Now that employment data has weakened, the market begins to believe that the "patience" stance emphasized by Fed officials will be given more weight. The New York Fed's Survey of Consumer Expectations also showed that the median one-year-ahead inflation expectation fell to 2.8%, further reducing the urgency for rate hikes.

III. Internal Divisions Remain: Warnings on Inflation Stickiness vs. Policy Resolve

Although the market tends to believe the rate hike cycle is over, the Fed is not monolithic. Minneapolis Fed President Kashkari issued a comment shortly after the data release, stressing that the current inflation level remains "stubbornly above the 2% target" and that the stickiness of housing services prices and core services inflation cannot be ignored. He warned that prematurely stopping rate hikes could cause inflation expectations to become unanchored, requiring more aggressive tightening in the future.

Notably, Kashkari was known as an "inflation hawk" in 2023, and his views have some representation within the Federal Open Market Committee (FOMC). However, in terms of voting rights distribution this year, doves and centrists constitute a majority among voters. Chairman Powell's recent congressional testimony also continued the "data-dependent" tone without any clear signal for rate hikes. This internal division actually reflects the dilemma faced by the Fed: on one hand, it must guard against the risk of inflation rebound; on the other, it must avoid over-tightening that could lead to a hard landing.

IV. Institutional Views Converge: High Probability of Rates Staying Unchanged This Year

Among global top-tier investment institutions, Goldman Sachs was the first to issue a report lowering the probability of a Fed rate hike in all of 2025 to 15% and maintaining a baseline expectation of no rate hike before June 2026. Goldman Sachs economists pointed out that the June nonfarm data further confirms the "labor market rebalancing" trend, which aligns with the continued decline in job openings, quits rate, and slowing wage growth. As long as inflation does not surge unexpectedly, the Fed has ample reason to stay put.

The CICC macro team also stated in a recent research report that the nonfarm data has compressed the probability of "another rate hike this year" from 30% to below 10%. CICC believes that considering the constraints of the election year political cycle and the recession risk implied by the deeply inverted US Treasury yield curve, the Fed is more likely to choose "buying time by holding rates," gradually absorbing inflation pressure, rather than actively hiking. JPMorgan, BofA Merrill Lynch, and other institutions have also followed suit, adjusting expectations, and market consensus is forming rapidly.

Conclusion

The release of the June nonfarm data can be regarded as a watershed for US monetary policy expectations. It not only changed the market's judgment on the rate path in the short term but also more profoundly reshaped investors' understanding of the Fed's policy framework: when economic data send contradictory signals, policymakers tend to stay put rather than act rashly. Behind this logic is the Fed's long-term effort to find a delicate balance between inflation and growth.

Looking ahead, the market's focus will shift from "when will rates rise" to "how long will high rates persist." If Q3 inflation data continues to moderate and the job market does not worsen beyond expectations, the probability of the Fed keeping rates unchanged through 2026 is high. Conversely, if inflation rebounds or the economy unexpectedly overheats, the current optimistic market pricing will face correction. Regardless, investors need to be vigilant about short-term volatility caused by data-dependent policies and the profound impact of long-term interest rate environment changes on asset pricing. In a macro context dominated by uncertainty, maintaining strategic composure and prudently managing risks may be more practical than chasing every data-driven short-term move.