The U.S. economy continues to expand, but recent data is showing a more complicated picture for investors. GDP growth remains solid, and consumers are still spending, while inflation has eased somewhat. At the same time, today’s jobs report showed a sharper slowdown in the labor market, adding another layer of uncertainty to the Federal Reserve’s interest rate path.
The economy grew at a 2.2% annualized rate in the second quarter, according to the latest estimate from the Bureau of Economic Analysis. While slower than the 2.5% growth recorded in the first quarter, the economy is still expanding at a healthy pace. Consumer spending was a major contributor to that growth, highlighting the continued strength of the American consumer.
That strength has continued into the third quarter. Consumer spending jumped 0.9% in August, its strongest monthly increase in more than a year. More spending suggests households are still willing to shop despite elevated prices and borrowing costs, providing an important source of support for economic growth.
Inflation, meanwhile, has shown some signs of cooling. The Federal Reserve’s preferred measure, the Personal Consumption Expenditures (PCE) price index, rose 3.4% year over year in August, unchanged from July and below economists’ expectations. Core PCE, which excludes food and energy, increased 3.0%. While both measures remain above the Fed’s 2% target, the softer-than-expected report reduced some pressure on the Fed to raise rates again in the near term.
Today’s employment report (10/2), however, provided a different signal. The U.S. added just 29,000 jobs in September, well below the roughly 90,000 economists expected. The unemployment rate also rose to 4.2% from 4.1% in August, while wage growth slowed to 3.0% year over year.
The weaker jobs data immediately affected markets by shifting the outlook for interest rates. A softer labor market gives the Federal Reserve more reason to hold off on additional rate increases, particularly as inflation has also come in below expectations. After the report, Treasury yields fell as investors reduced expectations for an October rate hike. Stocks also received support as lower yields can make equities, particularly growth stocks, more attractive relative to bonds.
The bigger question for markets is whether the economy can continue growing while the labor market cools. So far, strong consumer spending and solid GDP growth suggest the economy remains resilient. But today’s employment report shows that cracks may be beginning to appear. Investors will therefore remain focused on whether inflation continues to move lower without economic growth slowing too sharply.
For now, the data points toward an economy that is still expanding, but with a labor market that is becoming increasingly difficult for the Fed to ignore.
