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The U.S. employment report released on August 1 delivered an unexpected jolt to the markets. Nonfarm payrolls increased by just 73,000, falling well short of market expectations, while job gains for May and June were revised down by a combined 258,000. In response to the slowdown, markets quickly priced in a higher probability of a rate cut at the September Federal Open Market Committee (FOMC) meeting. At one point, the federal funds futures market reflected over a 90% chance of a 25bp cut in September, with some even speculating about a 'big cut' of 50bp, fueling expectations for monetary easing.
However, it would be premature to conclude that the U.S. labor market has deteriorated significantly based solely on the headline employment figures. The unemployment rate in July edged up to 4.2%, but remains historically low, indicating the labor market is still within full employment territory. Moreover, the slowdown in job growth is attributed not only to weaker demand amid an economic slowdown, but also to reduced labor supply due to the Trump administration’s tighter immigration policies. Companies have been hesitant to hire amid external uncertainties such as tariff shocks, while stricter visa restrictions and crackdowns on illegal immigration have further limited labor inflows, resulting in smaller net job gains. Federal Reserve Chair Jerome Powell also emphasized at last month’s FOMC press conference that “the key indicator to watch right now is the unemployment rate,” signaling the Fed’s cautious approach to evolving labor market dynamics.
On the inflation front, stability and risk factors are intersecting. The July Consumer Price Index (CPI) rose 2.7% year-on-year, largely within expectations, and headline inflation remained subdued, helped by falling international oil prices. However, core CPI, excluding food and energy, climbed above 3% to a six-month high, as companies began passing on tariff costs to consumers. The July Producer Price Index (PPI), released days later, jumped 0.9% month-on-month, far exceeding market forecasts. With U.S. import prices also rising more than expected due to tariffs, inflationary pressures have resurfaced, tempering earlier expectations for aggressive rate cuts. The probability of a 50bp ‘big cut’ at the September FOMC has all but disappeared, and the likelihood of a September rate cut dropped to around 83% as of August 18, down from near certainty.
Within the Fed, views are divided over these labor and inflation trends. Some policymakers are calling for prompt rate cuts, citing recent labor market weakness and short-term inflation stability. At the last meeting, Vice Chair Michelle Bowman and Governor Christopher Waller dissented from the decision to hold rates steady, advocating for a 25bp cut, reflecting a dovish tilt among some members. Meanwhile, President Donald Trump has openly pressured the Fed for “immediate and substantial rate cuts,” sharply criticizing Chair Powell. Nevertheless, many Fed officials remain cautious about shifting to an easing stance unless inflation risks are clearly subdued. Chair Powell and several regional Fed presidents have indicated that, as the recent PPI surge suggests, inflation risks persist, and have drawn a line against premature rate cuts. Chicago Fed President Austan Goolsbee stated, “We should be cautious about cutting rates until we are certain inflation has slowed.” Atlanta Fed President Raphael Bostic acknowledged that the recent job slowdown has increased downside risks, but said, “A single precautionary rate cut this year should be sufficient.” In summary, the Fed remains split between dovish and cautious camps, with most preferring to wait for further labor and inflation data ahead of the September meeting.
Last August, we saw a similar episode where rate cut expectations surged temporarily amid labor market volatility and recession fears. A slight uptick in the unemployment rate was interpreted as a recession signal based on the so-called “Sahm rule,” fueling speculation of imminent Fed easing. However, it was later revealed that the rise in unemployment was largely due to structural changes such as increased immigrant labor supply and temporary statistical factors. Ultimately, a recession did not materialize and the Fed’s policy stance remained largely unchanged. This episode underscores the importance of assessing fundamental shifts rather than overreacting to short-term labor data fluctuations.
The U.S. dollar, which had been on a bearish trend throughout the first half of the year, has rebounded somewhat since July, with the downtrend stalling. The dollar’s trajectory will be heavily influenced by the direction of U.S. monetary policy, which will also impact the USD/KRW exchange rate. For now, the Fed appears more likely to prioritize inflation risks over labor market weakness, but upcoming data releases could trigger significant swings in the dollar’s value. Investors should therefore focus on risk management rather than making one-sided bets. Policymakers, too, should respond to market changes based on a longer-term understanding of underlying fundamentals. A balanced message from Jackson Hole this weekend would be welcome.
(Lee Seung-heon, Professor at Soongsil University / Former Deputy Governor, Bank of Korea)
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