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Just a few days ago, the ADP non-farm employment report posted only 22,000 in net job losses, which is far better than the 61,000 job cuts seen last December. Although the ADP reading was still in the negative zone, it came in better than the consensus of 31,000 in job losses, hinting at a potential upside surprise for the upcoming NFP report. Expectations are high for the government employment report, which is expected to print an increase of 13,000 in hiring.

Don’t get me wrong – US labor conditions are not stellar by any means. The most recent NFP report revealed that the biggest cuts in December came from the manufacturing and construction sectors, shedding 27,000 and 53,000 jobs respectively.

Now, if you add up all the job losses in 2009, you’d see that the US economy lost a grand total of 4,200,000 jobs, putting the unemployment rate at 10%! This figure, on top of the wave of new people joining the labor force, indicates that the US’s labor market is far from healthy.

One thing I will say though is that the rise in unemployment has begun to plateau. Take a look at the ADP report – it has been gradually logging in less job cuts every succeeding month after peaking in March 2009 with a mind boggling 742,000 net jobs lost. The same can be said for the government’s NFP reading except that, like I said, it’s expected to print a positive number this January for the first time since December 2008. Employee wages have been increasing consistently too, treading the 0.1%-0.3% level month-on-month.

The question is: What effect will this have on the US dollar?

I have a hunch that if the report shows any uptick in employment, we may see the dollar rise. Look at the past few releases – when the NFP showed a nice surprise in December, we saw traders buy up the dollar like Superbowl tickets.

Then, last month, when news broke out that the NFP report came out worse than expected, the dollar took a painful hit to the mid section and dropped against most major currencies. The EURUSD, in particular, soared by a whopping 150 pips upon the release, rallying to close out that trading session at 1.4416 from its intraday low of 1.4264.

Looking ahead, if the labor market continues to improve in the US, there will be a stronger cause for traders to focus on the fundamentals. Of course, the US does have its problems but as I’ve said in the past, it’s not like the United Kingdom’s or euro zone’s outlook is any brighter. With that said, market participants may see improving labor conditions as a sign that the US economy is getting some legs under it, which in turn could help the dollar continue this recent rally.