Fed officials worried about labor market as they prepare for Jackson Hole

By Howard Schneider

WASHINGTON (Reuters) – Federal Reserve officials meeting this week for the annual central bank conference in Jackson Hole, Wyoming, can take some satisfaction that the U.S. unemployment rate of 4.3% remains historically low.

But this is usually the case: since the late 1940s, unemployment rates in the United States have been far more often below the long-term average of 5.7%, until they rose rapidly and significantly exceeded that figure – a phenomenon that Fed officials fear.

The emerging trend is not entirely clear.

The steady increase in the unemployment rate from 3.7% in January 2023 to 4.3% in July 2024 was also accompanied by a 1.2 million increase in the number of job seekers – something that is usually considered a positive sign for the economy but can lead to an increase in the unemployment rate.

In recent days, however, Fed officials have made it clearer that they are prepared to cut interest rates due to a possible weakening of the labor market. Previously, they had kept the US central bank's benchmark interest rate in the range of 5.25 to 5.50 percent for more than a year. The current level is the highest in a quarter century.

“The allocation of risk has shifted, so the debate about a possible rate cut in September is entirely appropriate,” Neel Kashkari, president of the Minneapolis Fed, said in a recent interview with the Wall Street Journal, referring to the central bank's monetary policy meeting on September 17 and 18.

Other Fed officials, including Mary Daly, president of the San Francisco Fed, said in other interviews that they were increasingly confident that inflation would return to the central bank's 2 percent target and that they were open to rate cuts.

The Fed is widely expected to cut its benchmark interest rate by a quarter of a percentage point next month, and policymakers will also provide updated forecasts showing how they think rates and the economy will perform over the rest of the year and into 2025.

The story continues

Fed Chairman Jerome Powell is expected to further bolster the view that the central bank is on the verge of easing credit conditions after containing the worst inflation outbreak in 40 years in his speech Friday at the Kansas City Fed's Jackson Hole conference.

EYES ON OTHER MANDATES

Fed policymakers hope these cuts come in time to complete what has so far been a textbook “soft landing,” in which inflation subsides without the sharp rise in unemployment that often accompanies central banks' efforts to slow the pace of price increases by constraining the economy with higher interest rates. In previous cycles of monetary tightening, once the unemployment rate started to rise, it continued to rise.

In contrast, progress on inflation in the current cycle has been dramatic. The personal consumption expenditures price index, which the Fed tracks for its 2% inflation target, peaked at an annual rate of 7.1% in June 2022 and was at 2.5% in July – approaching that target.

Yet until recently, the unemployment rate has remained largely unchanged, remaining below four percent for two years in a row, and employment growth has been well above the average for the decade before the Covid-19 pandemic.

This year, that trend began to change, with Fed officials increasingly placing greater emphasis on the risks of maintaining monetary policy that is too tight for too long.

Current labor market data show why they are worried.

The US government reported weaker-than-expected job growth for July. Employers created just 114,000 new jobs. The July figure pushed the three-month average below the pre-pandemic trend and caused the unemployment rate to rise by two-tenths of a percentage point to 4.3%.

In addition, some of the month-on-month changes in the data as people enter and leave jobs or look for work are not encouraging. While the overall labor force is growing, which is a constructive change, it also seems to be taking longer for people to find work – as shown by the increasing number of people entering the labor market but first going through a period of unemployment rather than finding work directly.

In addition, federal labor market dynamics data show that the number of people losing their jobs and becoming unemployed is increasing every month.

At the same time, however, the number of unemployment claims has not increased dramatically; rather, it has kept pace with the increase in the working population.

With consumer spending still strong and economic growth possibly slowing but still positive, the Fed is not yet ready to talk about a crisis in the labor market – it just wants to prevent one from happening in the first place.

In a commentary to the Financial Times published on Sunday, Daly said maintaining high interest rates while inflation falls was a “recipe for achieving the outcome we do not want, which is price stability and an unstable and weakening labour market.”

Austan Goolsbee, president of the Chicago Fed, shared the same view, saying on Sunday on CBS's “Face the Nation”: “If you keep monetary policy too tight for too long, you're going to have problems with the Fed's employment policy.”

(Reporting by Howard Schneider; Editing by Dan Burns and Paul Simao)