US non-farm payrolls contracted by 23,000 in July, sharply missing market expectations of an 80,000 increase and marking a significant deterioration in the labor market. The contraction extends a months-long cooling trend: factoring in all revisions, the three-month average for non-farm payrolls now stands at just 20,000, far below the pace many economists consider necessary to absorb population growth.

The prior month's figure was revised down from +57K to +20K, while May's reading stood at +129K. The two-month net revision totaled -103K.

Key Labor Market Indicators

The unemployment rate fell to 4.1% versus 4.2% expected, down from 4.2% previously. On an unrounded basis, unemployment came in at 4.0900%, compared with 4.1889% prior. The decline in the headline rate alongside a payroll contraction reflects, in part, a shrinking labor force rather than robust hiring.

• Participation rate: 61.4% vs 61.5% prior
• U6 underemployment rate: 7.9%, unchanged
• Average hourly earnings: +0.1% month-over-month vs +0.3% expected
• Average hourly earnings: +3.2% year-over-year vs +3.5% expected
• Average weekly hours: 34.3, in line with expectations

The slowdown in wage growth, both on a monthly and annual basis, is consistent with softening labor demand and could factor into the Federal Reserve's upcoming policy deliberations.

Private payrolls rose by 30,000 against expectations of 78,000, with the prior figure revised from +49K to +30K. Manufacturing payrolls gained 30,000, well above the expected 4,000. Government payrolls fell by 53,000, compared with +8,000 previously.

Market Reaction

Ahead of the release, USD/JPY was trading at 158.33, and Fed funds futures were pricing a 57% probability of a September rate hike. Following the data, USD/JPY dropped to 157.13, and rate hike odds declined to 44%.

The decline in USD/JPY was compounded by remarks from Japanese Finance Minister Katayama, who stated he agreed with Bessent that foreign exchange markets have been affected by moves not backed by real demand.

Underlying Details

Teen unemployment accounted for much of the improvement in the headline unemployment rate, falling by 167,000 from 907,000 to 740,000, bringing their jobless rate down from 14.6% to 12.1%. Among those aged 20 and older, the unemployment rate held steady at 3.8%.

Labor force participation continued to weaken, with 264,000 people leaving the workforce in July. Since May, the US labor force has contracted by 984,000 — a sizable reduction that can mechanically lower the unemployment rate even when hiring stalls.

Leisure and hospitality employment declined by 40,000, including a drop of 26,100 at food services and drinking establishments, which may reflect a post-World Cup effect. However, given the downward revisions, the World Cup does not appear to have significantly boosted job creation during the lead-up to the event.