Market Rallies on Strong Productivity and Payroll Optimism

By Jason Simpkins
Associate Editor

Markets soared Wednesday, boosted by positive economic data that still left enough room for a Federal Reserve rate cut next Tuesday.

The Labor Department announced that productivity rose at an annual rate of 6.3% in the third quarter, up from 2.2% in the second, and the biggest increase in four years. Meanwhile, labor expenses dropped at a 2% pace, the most since 2003.

Combined, they ease the pressure on companies to raise prices, reducing the risk of inflation. That in turn, gives the Fed more leeway to cut its key interest rate.

The Federal Open Market Committee is widely expected to reduce its benchmark rate at its next meeting Dec. 11. If they do, it would be the third consecutive rate cut in four months. Market futures are fully pricing in a rate reduction of 25 basis points, but indicate a 38% probability of the central bank reducing the rate by 50 basis points. Before the report, the market indicated a 54% chance of a 50 basis point reduction. 

Last week, Fed Chairman Ben Bernanke acknowledged "renewed turbulence" in the depleted housing sector. On Nov. 20, the Fed lowered its expectations for 2008 economic growth to 1.8 - 2.5%.

The market was also given a jolt by a report from a private employment service that increased optimism about Friday’s payroll report. In its November report, AMD said private employers added 189,000 jobs, the biggest monthly increase this year.

"While the market typically discounts the ADP report, a number this far out of the cloud could cause economists to revise their expectations for Friday," Brian Dolan, chief currency strategist at, told Reuters

Wednesday’s news had very positive implications for the third quarter, which showed tremendous resilience in light of the subprime meltdown and subsequent credit crunch. Despite the good news however, lower expectations for inflation and a shaky credit market bode well for a Fed rate cut next week.

"No question that the third quarter went out with a big roar in terms of both growth and productivity," Brian Bethune, Director of Financial Economics at Global Insight Inc., told Bloomberg News. "Inflation is a diminished threat."

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