September 12, 2025

Stephen Miran’s nomination to the Fed’s Board of Governors has not yet been confirmed but it could happen on Monday which would allow him to be seated ahead of the two-day meeting that will start on Tuesday.  Regardless of whether he is there or not, the Fed will cut rates at that meeting.  Fed Chair Powell signaled that outcome last month at its annual gathering in Jackson Hole, Wyoming.  The only issue is whether the initial cut will be 0.25% or 0.5%.

The Federal Reserve has two goals.  Achieve full employment which the Fed believes occurs when the unemployment rate is 4.2% (it is currently 4.3%).  The other is to keep the inflation rate steady at the 2.0% mark (it is currently 2.9%).  But what happens when those two goals collide?  Prior to August the Fed indicated that its primary goal was to bring the inflation rate back down to 2.0%.  But now the Fed says that the balance of risks has changed and that softness in the labor market should take precedence.  It intends to lower rates to ensure that the unemployment rate does not climb higher.  But if lower rates actually speed up the pace of economic activity it could push the  inflation rate higher.  A plausible case can be made to cut rates, but an equally plausible case can be made to wait until the inflation rate begins to fall in a  more convincing manner.  While there will almost certainly be a spirited debate at this week’s meeting, a cut in the funds rate is a certainty.  Chair Powell could not have said what he did in Jackson Hole without having received the blessing of his colleagues.  How much of a decline is unclear.  It is also unclear whether the sudden urgency to cut rates is based on the Fed’s assessment of the economic situation, or whether politics has entered the equation and the Fed is bowing to the intense pressure from Trump to cut rates.

The debate centers on the future course of the labor market.  Jobs growth has clearly slowed.  The August employment report showed that in the past three months jobs growth has slipped to 30 thousand per month from almost 150 thousand per month last year.

We now have additional information about the labor market.  Once a year the Fed receives more complete data (from state and local governments and smaller firms in particular) and revises its earlier estimates.  It now says that from March 2024 to March 2025 there were 911 thousand fewer jobs created than what the currently published data indicate.  That is a much bigger than usual revision.  Between March 2024 and March 2025 the current data show that jobs growth averaged 147 thousand per month.  The revised data to be published in February will chop that number in half to an average monthly gain of just 71 thousand jobs. That seems problematical.  But is it?

Typically, a sharp slowdown in jobs growth would be accompanied by an increase in the unemployment rate.  But that has not happened.  While ticking up in August to 4.3% the  unemployment rate has essentially been steady at 4.2% for the past year.  The reason is that with the sharp falloff in immigration the labor force growth has also slowed.  What that means is that the pace of job creation required to keep the unemployment rate constant has slipped.  It  used to be about 150 thousand per month.  Now it is about 70 thousand.  If the Fed’s job is to ensure that everyone in America who wants a  job has one, it has done that.

But the Fed sees it differently.  At his speech in Jackson Hole, Fed Chair Powell said that, “Overall, while the labor market appears to be in balance, it is a curious kind of balance that results from a marked slowing in both the supply of and demand for workers. This unusual situation suggests that downside risks to employment are rising. And if those risks materialize, they can do so quickly in the form of sharply higher layoffs and rising unemployment.”

This is the justification that the Fed will use to defend whatever rate cuts it chooses this week.  The labor market is not particularly weak now, but it could become so if demand weakens at some point down the road.

But what about inflation, the other Fed goal?  For years the Fed told us that it intends to get the inflation rate back to 2.0% and keep it there.  But the core personal consumption expenditures deflator is at 2.9% and it  has remained at about that mark for almost a year.  It may (or may not) be quickening as tariffs work their way through the economy, but it certainly is not headed lower.

We are not particularly concerned about a pickup in the inflation rate because the Fed has eliminated virtually all of the surplus liquidity in the economy that it created in 2021 and 2022.  That means that the inflation rate should  eventually slow to 2.0%.  But how soon is “eventually”?

All of this is important because the Fed lost all credibility as an inflation fighter in 2020-2021 when it insisted that the runup in inflation would be temporary.  It wasn’t.  Inflation climbed to 9.0%.  Now it is once again telling us not to worry about a 2.9% inflation rate because it will “eventually” slow down.  Are we supposed to believe the Fed this time?  We just heard that story and it did not end well.  Middle income families are already struggling with outsized increases in the five years since the recession with the prices of new and used cars, automobile insurance, car repair, rent, beef, and coffee amongst other things.  Prices went up; they never came down.  Consumers can ill-afford another Fed policy error. Despite its lack of credibility, the Fed is choosing to cut  rates even though inflation remains far above its target.  That strikes us as a very curious time to ease.

Then there is the question of what level of interest rates are appropriate in today’s economic environment.  The funds rate is currently at 4.3%.  The Fed think’s a neutral level for the funds rate, where it is neither stimulating nor slowing the pace of economic activity, is 3.0%.  Thus, it appears that Fed policy is somewhat restrictive.  But if that is the case, why is GDP growth still chugging along at a 2.0% pace?  Why is the stock market at a record high level?  Why is the inflation rate not steadily shrinking?  Current Fed policy may not be nearly as restrictive as it thinks which means that there is limited room to cut rates.

Having said all that, lower rates are coming this week.  Whether the rate cuts are being triggered by a reading of the economic tea leaves or whether political pressure is playing a role only those Fed officials know.  We will give them the benefit of a doubt and believe that it is their assessment of the economy that is the driving factor behind their action.  The American public hopes that this is not another policy mistake.  Time will tell.

Stephen Slifer

NumberNomics

Charleston, S.C