Only a week ago, stronger-than-expected second-quarter economic growth was a top headline in the financial media. The major stock market indexes were near all-time highs, and with inflation trending lower, expectations had the Federal Reserve beginning an orderly easing of short-term interest rates as soon as September. A rare economic soft landing seemed like a sure thing.
What happened? In short, economic data released late last week casts doubt on the notion that the landing is, in fact, on track to be a soft one. The July employment report, in particular, raised alarm bells. Nonfarm payroll employment growth was far below expectations. The unemployment rate jumped to its highest since October 2021 at 4.3 percent. The disappointing economic data collided with a stock market that had been running red-hot for more than a year and a half, leading to a downward reappraisal of earnings expectations and a substantial global selloff. At the same time, concerns are growing that the Fed is behind the curve with respect to interest rates, as turned out to be the case when inflation was on the rise two years ago.
One disappointing employment report does not necessarily portend an impending recession. A slowdown rather than a downturn remains the most likely path for the economy over the next six to twelve months.
It is unlikely but not out of the question that the Fed will lower interest rates prior to its next monetary policy meeting scheduled for September 17-18. It is very likely, though, that rate reductions starting in September will be larger and come at a faster pace than conventional wisdom previously held. According to CME Group data, financial markets are currently pricing in a cut of 50 basis points in September and a cumulative reduction of between 100 and 125 basis points by year-end.
The silver lining for households is that a steeper downward trajectory for interest rates will ease debt service burdens and help boost consumer spending on big-ticket items like autos. The touch of gray in the silver lining is that what seemed a smooth glide path to a soft landing just a few days ago now looks like it will be quite turbulent.