Jerome Powell, Chair of the Federal Reserve, is at a pivotal point. He is readying to make a key interest rate decision this September. Powell’s credibility is quickly being placed under threat with signs of increased volatility within the U.S. labor market. The economic landscape has shifted tremendously. Last year’s surprise deep downgrade of the jobs numbers left Powell with almost no choice but to undercut interest rate expectations by a huge margin. As the upcoming data looms large, he grapples with the challenge of navigating political pressures without appearing to favor any side ahead of the election.
Throughout 2022, the labor market experienced a dramatic pivot. One rebenchmarking later, there went that 818,000 jobs surprise! This surprise was greatly responsible for Powell’s decision to cut rates by 50 bps. He announced this decision far enough in advance of the voters going to the polls. Fast forward to today, and Powell is under the same pressures. As he does, he needs to take stock of dismal labor market trends while assuring he doesn’t look politically motivated in the process.
The stakes are particularly high this time for Powell, as he faces a changing balance of risks. In the U.S., a recent service sector surge signals strong growth, as it recorded its most assertive expansion in half a year. This encouraging news is a world away from worries about possible layoffs and an economic slowdown. Yet this juxtaposition hugely complicates Powell’s challenge of crafting a tough policy response that still meets the stark economic reality.
Navigating Economic Pressures
Powell’s unenviable position—trying to juggle a host of conflicting economic signals while managing the expectations of the public and politicians—is even worse right now. Labor demand is now weakening, creating huge pressure on him. If that’s the case, he needs to judge right and give an honest accounting if he wants to keep his credibility. Many economists suggest that if payroll growth remains stagnant—around 75,000 jobs or less—Powell may have little choice but to initiate another rate cut.
Powell will be closely watching an array of important economic indicators as he determines his next moves. He’ll be looking at inflation data, performance on trade, and new lending numbers. The Federal Reserve’s ability to respond effectively depends on getting an accurate read of these signals. If so, Powell’s approach could change completely based on the reports to come.
A third dimension to Powell’s challenge is the (lack of) political will. In an election year, any such cut might be seen as playing favorites with the political winds. So he needs to walk a fine line between preserving the Federal Reserve’s independence and addressing clear economic pressure from the public. The danger of being viewed as an election referee hangs over his head with every decision, with each rate hike feeding to both markets and social media.
The Labor Market as a Key Indicator
The one major change in Powell’s U.S. labor market has become the subtext to Powell’s growing credibility as a focal point. It’s hugely inefficient, and it’s like playing roulette. The result could have a huge bearing on his fate as Chair of the Federal Reserve. Recent national data show tremendous inequities when it comes to demand for labor. Consequently, officials, such as Waller, are sounding the alarm on a cliff drop off in strong future job opportunities.
If the non-farm payroll (NFP) data reveals growth below 40,000 with an unemployment rate surpassing 4.4%, Powell would find himself cornered into making an immediate cut of 50 basis points this Friday. This situation would be reminiscent of a year ago when lousy employment numbers forced him to act and led to the historic, bold moves.
Yet, these decisions have impacts that are felt much further than just economic considerations. They can affect the public’s perception of how much the Fed can be trusted to control monetary policy effectively. With Powell’s credibility at stake, he faces an uphill battle to align his responses with both economic realities and public expectations.
Preparing for September’s Decision
With the arrival of September, all eyes are on Powell and his Federal Reserve crew. As they prepare for their next monetary policy meeting, likely an important one, no doubt. The next big economic data release will have a huge impact on their approach. It’s an important ingredient as they get ready to make this potentially game changing decision. Advocates are hopeful that any sustained downturns in major indicators will prompt a reconsideration of these stances.
If such economic data follows that pattern, the more speculation there is about future interest rate cuts eventually bringing rates down to 2.5% or lower. Such a situation would require a major reorientation of monetary policy to be more in line with changing economic realities.
Powell isn’t the only one with such views. This dovish, labor-demand destroying line of thinking and potential future cuts have been made public by other Federal Reserve officials. This shared perspective lends considerable credence to the argument for a more measured approach as they plow forward into these choppy waters.