Was it for real?

That is the question that investors will be looking to the

June employment report

, slated for release at 8:30 a.m. EDT Friday, to answer. Was the May edition of the top-dog economic indicator -- which detected the first drop in private-sector payrolls since January 1996 and the largest such decrease since November 1991 -- accurate in its portrayal of an economy on the wane?

The May employment report, you may recall, counted 231,000 new nonfarm jobs. But all of those jobs, and then some, were temporary. The

Census Bureau

hired 357,000 workers in May, while private-sector payrolls lost 116,000 jobs. That compares with an average gain over the previous 12 months of 215,000.

The May jobs report went a long way toward persuading people that the six interest rate hikes the

Fed has engineered over the past year were finally having their desired effect on the economy -- slowing growth to a pace that won't cause inflation to accelerate.

If that was the case, many reasoned, then maybe the Fed didn't need to hike rates any more. On the day the May jobs report was released, traders of

fed funds futures at the

Chicago Board of Trade

bid up their prices to levels that discounted less than a 50% chance of a 25 basis-point hike in the

fed funds rate in June. The day before, they were discounting a nearly 100% chance of a June rate hike. Ultimately, there was no June hike.

Of course, there were -- and are -- skeptics. People argued that the May results were fluky and certain to be revised away when the June report comes out.

Salomon Smith Barney's

economics group, for one, notes that the

Bureau of Labor Statistics

, which produces the employment report, "has underestimated the change in nonfarm payrolls in its preliminary May canvass in 15 of the past 21 years only to post an upward adjustment with the subsequent month's report."

With Wall Street prognosticators and fed funds futures traders now split on the likelihood of an August rate hike -- fed funds futures were lately pricing in roughly even odds of a rate hike at the

Federal Open Market Committee's Aug. 22 meeting -- the June jobs report has even more potential than usual to cause a swing in investor wisdom, and with it, bond prices, some analysts believe.

"A repeat of May's 116,000 drop in private payrolls -- or anything like it -- would, at a stroke, take out expectations of further rate hikes in this cycle," Ian Shepherdson, chief U.S. economist for

High Frequency Economics

, wrote in a published comment. "Yields would drop very sharply across the yield curve" -- meaning from the shortest-maturity issues to the longest-maturity ones. "Growth forecasts would be ratcheted down sharply, and brave souls would begin to talk about the timing of the next Fed easing cycle."

On the other hand, Shepherdson continued, a large rebound in private-sector payrolls (on the order of 500,000) would trigger "an immediate rethink as to how much the economy has slowed. It would expose the extreme optimism at the short end of the curve, though yields would rise across all maturities." The shortest-maturity Treasuries are most directly influenced by the fed funds rate, and with the two-year Treasury note lately trading at a yield around 6.30%, 20 basis points lower than the fed funds rate, traders of short-term Treasuries clearly aren't counting on the rate to rise.

The average forecast among economists polled by

Reuters

is for a 263,000 increase in total nonfarm payrolls, but Shepherdson points out that individual forecasts are more or less evenly distributed along the continuum. This is unusual. Normally, there are many more forecasts in the middle of the range than at the ends.

Reasons for expecting a small gain in payrolls in June include the upward drift in

initial jobless claims

during the month, says Bruce Steinberg, chief economist at

Merrill Lynch

, whose forecast of just 175,000 new jobs is among the lowest. During the month, the four-week average of first-time claims for unemployment insurance rose to its highest level in over a year.

On the other hand, Salomon Smith Barney, whose forecast of a 375,000 gain is among the highest, points out:

  • the labor market remains tight -- evidence of strong demand for labor;
  • hiring-plan surveys point to average payroll gains of 345,000 a month during the second quarter;
  • favorable weather during the week that data for the report were gathered ought to have boosted hiring in construction and retailing;
  • and a five-week interval between the May and June survey weeks (normally only a four-week interval) will bias the June results upward in ways that are difficult to adjust for.

And then there are those who observe that a failure of June payrolls to rebound won't be a clear indication of a slowing economy.

Lou Crandall, chief economist at

Wrightson Associates

, says the question of whether private-sector hiring will correct in June by rising sharply is the wrong question. The May retreat by private-sector payrolls was itself a correction of above-trend growth in February and March, Crandall says.

Last year, private-sector payrolls gained an average of 202,000 a month. But in March, they grew by 374,000, and in April, 296,000 jobs were added. "If most of the May shortfall was a correction for earlier months, then we should not expect much of a snapback in June," Crandall writes. He is forecasting a total June gain of 200,000.

What's key to note, Crandall says, is that private payrolls, which gained an average of 190,000 jobs a month from February 1999 to February 2000, gained an average of 185,000 jobs a month from March to May 2000. "Current population growth trends suggest that the sustainable growth rate of payroll employment is 150,000 or less," Crandall writes. "A deceleration into the 175,000 to 200,000 range is hardly a sign of weak economic conditions."

That's why Crandall expects another major feature of the employment report -- average hourly earnings -- to rebound strongly in June. This measure of wage inflation rose just 0.1% in May, its smallest gain since February 1996. This time, economists expect it to rise 0.4% on average. "The average gain over the April-May period

of 0.25% still seems low in light of current labor market conditions," Crandall says.

Speaking of which, the employment report's broad measure of labor market conditions -- the unemployment rate -- is forecast to drop to 4.0% from 4.1%. In April, the rate hit a 30-year low of 3.9%. The question here, Crandall says, is whether the rise in adult unemployment indicated by the increase in initial jobless claims is sufficient to offset a decline in youth unemployment as students started summer jobs.