Weak Labor and Services Sector Data Fuel Rate Cut Bets

Rate cut odds rise while yields plummet. Treasury yields declined 6–11 bps across the curve today following employment and services sector data that came in well below expectations. The Fed Funds futures-implied odds of a 25 bp rate cut by the end of September’s FOMC meeting soared to 97% from 83% as of yesterday’s close, and two rate cuts are now fully priced in for 2025. President Trump was among those in favor of rate cuts, as he cited the employment data in a plea to Powell to “lower the rate.” The policy-sensitive 2-year yield is currently at 3.87% after an 8 bp decline, while the 10-year is at 4.36% after a 10 bp fall.

ADP employment and ISM Services data signal the economy is losing strength. Ahead of Friday’s nonfarm payrolls and unemployment figures, which are expected to slow by 49k and hold steady at 4.2%, respectively, ADP employment data offered a troubling signal. Private-sector job growth (37k in May) was the weakest since March 2023 and well below the 114k estimate. Meanwhile, the ISM Services Index was 49.9 in May, meaning that the services sector contracted for the first time since June 2024. Steve Miller, Chair of the ISM Services Business Survey Committee, stated, “Respondents continued to report difficulty in forecasting and planning due to longer-term tariff uncertainty and frequently cited efforts to delay or minimize ordering until impacts become clearer.”

Preliminary estimates say tariff revenue could more than offset tax cuts. Today, the Congressional Budget Office published projections showing that tariffs could generate more revenue than is lost from the extension of Trump’s signature tax cuts. The estimates showed that tariff revenue could reduce the federal budget gap by $2.8 trillion over 10 years, whereas the tax bill would increase the gap by $2.4 trillion. In total, the CBO expects a $2.8 trillion net deficit reduction over the next decade if tariffs remain in place and the tax bill is passed. Additionally, the analysis found that tariffs would likely decrease real economic output and increase inflation by at least 0.4% on average in 2025 and 2026. CBO director Phillip Swagel said that the estimates “are subject to significant uncertainty.”