(Wells Fargo Research Team)
Labor the Point
While the biggest debate is whether the economy is already in recession, we do not believe broad economic activity is consistent with a downturn yet.
We still expect the economy to slip into a mild recession by the beginning of next year as aggressive Fed tightening is required to tame persistently high inflation.
The strongest argument against the economy currently being in a recession continues to be the strength of the labor market. Employers continue to hire at a robust pace, adding 1.2 million jobs in the second quarter and over half a million jobs in July alone. It’s tough to square these robust hiring figures with an economy in recession.
Admittedly, the labor market is showing initial signs of cooling outside the official hiring data. There is also mounting evidence of an economic slowdown, with one-off volatile factors unable to fully explain away the second quarter contraction in GDP growth.
The lone bright spot in an otherwise dreary Q2 GDP report was the 1.0% annualized advance in personal consumption expenditures. Households continue to stretch their wallets by putting off saving to fund consumption in the face of persistently high inflation. The staying power of consumers may soon run out, however.
The slower-than-expected inflation data for July signaled some reprieve in price pressures. While it’s too soon to say if the peak is in for inflation, the July data take some pressure off the Fed and open the door for potentially less aggressive tightening.
We still expect the FOMC will opt to raise the fed funds rate 75 bps at its next policy meeting in September. But there is quite a bit of data to be released before the Fed’s next action, and if we get another soft CPI reading for August, the FOMC may instead move forward with a less aggressive hike of 50 bps in September.
There are still signs that the descent in inflation may be slow, and we believe the Fed will err on the side of caution when it comes to inflation and not take its foot off the pedal until it sees compelling evidence that it is slowing on a sustained basis.