Employment worries rise for Fed as inflation challenge is ‘becoming history’

Price spikes are cooling, the economy is growing and Federal Reserve Chair Jerome Powell is still on track to cut interest rates after the Commerce Department on Friday reported that inflation was low again last month.

But just because inflation is sliding closer to the Fed’s annual 2 percent target doesn’t mean the country’s worries are over. There is a new front in the Fed’s efforts to keep the economy healthy: protecting a labor market that's beginning to show signs of weakness.

“The job market is more fragile than it appears,” said Robert Frick, corporate economist at Navy Federal Credit Union. “Employers may not be laying off many workers, but as the economy slows, they are cutting back through other methods such as fewer hours and shifting workers to part-time.”

Friday’s inflation data will solidify Powell’s resolve to lower borrowing costs next month, a move that's poised to bring some relief to businesses and consumers just weeks ahead of the November elections. When the Fed acts, the challenge will be to calibrate the size of the cuts so they keep unemployment low without rekindling inflation. The Fed's mandate is to maintain maximum employment and stable prices.

The Commerce Department said Friday that the annual personal consumption expenditures index, the Fed's preferred gauge of inflation, was just 2.5 percent in July — a sign that inflation is slowing down. Both personal income and disposable personal income climbed by 0.3 percent last month, surpassing the expectations of most economists.

The inflation update follows signals from Powell and other Fed officials that the central bank will lower interest rates at its September meeting to prevent a further rise in joblessness amid signs that it’s harder for people to find work. The unemployment rate, while still low at 4.3 percent, has been climbing steadily since last year, which has raised the specter of a possible recession.

Last month’s jobs report ignited fears that the unemployment rate’s upward trajectory was gaining steam even though other gauges suggest the overall economy remains relatively healthy. The Labor Department last week said that the number of jobs the economy added in the year ending March 31 was likely 818,000 less than what was previously estimated.

Powell said at a gathering of central bankers in Wyoming last week that the labor market's softening was “unmistakable” and that the Fed did not seek, or welcome, any additional cooling.

“The inflation story is becoming history, which is good,” said George Selgin, director emeritus of the Center for Monetary and Financial Alternatives at the libertarian-leaning Cato Institute. “I have a feeling we’ll see improvements in the job situation relatively soon. I think the [rate] cuts will make a difference.”

The August jobs report set for release Sept. 6 will be an important metric for determining the size and pace of future cuts.

Friday's inflation data and the Fed's looming cut are poised to be key talking points in a presidential campaign where the cost of living has become a central tension.

Some Democrats, including allies of Vice President Kamala Harris, are pressing the Fed to make aggressive rate cuts to reinvigorate the job market, and that's likely to continue if it's clearer that inflation is under control. Former President Donald Trump, who argues that the economy is much weaker than Democrats are letting on and has a history of bashing Powell, has, at the same time, suggested the Fed should hold off on providing relief through lower rates until after the election.

A host of other metrics suggest the economy is humming. Even rising unemployment has been driven primarily by more people joining the labor force rather than a spike in layoffs.

After rising earlier this summer, weekly claims for unemployment benefits are back in line with pre-pandemic levels, National Economic Council Director Lael Brainard said in a CNBC appearance Friday morning.

“Real incomes have gone up," she said. "Wages have risen faster than prices. More American households have money to spend and that should sustain the economy."

The Commerce Department on Thursday reported that the U.S. economy expanded by an estimated 3 percent in the second quarter — a sign that consumers are still spending money at a robust clip. The Conference Board’s consumer confidence index climbed in August, reflecting a decline in inflation expectations and an improving outlook for business conditions. The expenditures data published by the Commerce Department Friday morning reflected a 0.5 percent monthly increase in consumer spending, well above the 0.3 percent increase reported in June.

“This looks like an economy that's growing robustly,” Bill Adams, the chief economist for Comerica Bank, said Thursday. But, he added: “The Fed has a maximum employment mandate, not a GDP growth mandate.”