Latest / The Macro Memo with Fexingo: Daily Conversations on Inflation, GDP, and Federal Reserve Policy / Why GDP Growth Slowed but Jobs Stay Strong
Transcript
- Lucas: GDP growth came in at 1.5% annualized for the second quarter, down from 2.1% in Q1. That's a notable slowdown. But here's the head-scratcher: the unemployment rate actually fell to 4.2% in June. Luna: That doesn't usually happen, right? Slower growth typically means fewer jobs. Lucas: Exactly. According to Okun's law, when growth decelerates that much, you'd expect unemployment to tick up. But instead, payrolls added 57,000 jobs in June and job openings actually increased slightly to 7.6 million. So we have this real disconnect between output and labor demand. Luna: What do you think explains it? Are companies just hoarding workers because they struggled to hire during the pandemic? Lucas: Partially. That's the labor hoarding hypothesis. Firms went through a brutal hiring cycle in 2021–22 and don't want to lay people off again unless they absolutely have to. Even if demand softens, they hang onto workers to avoid rehiring costs later. Luna: That makes sense, but it can't be the whole story. Productivity has been weak too. Lucas: That's a huge factor. Productivity growth has been around 0.5% over the past year, well below the long-run trend of 1.5%. When workers produce less per hour, you need more workers to generate the same GDP. So slower growth doesn't necessarily mean fewer jobs if productivity is also slow. Luna: So we're in this weird zone where the economy is cooling but the labor market is still tight. What does that mean for the Fed? Lucas: Well, the Fed is on hold at 3.63% on the fed funds rate. They've kept it unchanged since March. The core PCE inflation rate is still around 3.3%, well above their 2% target. So the classic response to slowing growth would be to cut rates, but they can't because inflation is still sticky. Luna: But longer-term yields have come down a bit—the ten-year is at 4.66%, down from earlier this year. And the curve has steepened. That suggests bond markets expect rate cuts eventually. Lucas: Right. The two-year yield is 3.67%, so the spread is nearly 100 basis points. That's a steep curve, and historically it signals that the market anticipates easier policy ahead. But the Fed is pushing back on that narrative. Luna: You also see that initial jobless claims ticked up to 197,000 in late July, from 188,000 the week before. Still low, but it's a small crack. Lucas: Exactly. The labor market is strong but not untouchable. If claims keep rising, that could be the first sign that the hoarding is unwinding. And then the gdp jobless puzzle resolves itself, but in a painful way. Luna: So for the Fed, it's a waiting game. They need to see either inflation come down more convincingly or the labor market soften enough to reduce wage pressure. Lucas: That's the challenge. And it's why episodes like this matter—you're trying to read the economy's tea leaves. I mean, understanding these disconnects is exactly why we do this show every day. And a quick honest thing—a handful of listeners chip in monthly through buy me a coffee dot com slash fexingo, and that's literally what funds making this many of these. It keeps us independent and ad-free. Luna: Yeah, it really does. It's a small group that makes a big difference. And it allows us to dig into puzzles like this without worrying about clicks. Lucas: Exactly. Back to the data—another thing worth watching is the JOLTS numbers. Openings are still at 7.6 million, which is historically high even if down from their peak. So there's still lots of demand for workers, which supports the hoarding story. Luna: But if GDP continues to slow—say below 1% in the second half—that hoarding might become unsustainable, right? Lucas: Absolutely. Profit margins are already under pressure. If revenue growth slows, companies will look to cut costs. Labor is the biggest cost for most firms. So the next few months are crucial to see whether this divergence was just a lag effect or a new normal. Luna: Speaking of lag effects, wage growth is still hovering around 4% year-over-year. That's consistent with sticky inflation. Lucas: Yeah, average hourly earnings are up 3.9% from a year ago. That's not enough to fuel a wage-price spiral, but it's too high for the Fed to feel comfortable cutting rates. And with productivity weak, unit labor costs are rising, which feeds into core inflation. Luna: So the bottom line is: don't expect the Fed to move anytime soon. They need concrete evidence that inflation is heading sustainably to 2%. Lucas: Right. And the market is pricing in maybe one cut in the first half of 2027. But if the GDP slowdown accelerates and the labor market cracks, that timeline could shift faster. For now, it's a watching game. Luna: And watching the yield curve is part of that. The ten-year breakeven inflation rate is 2.26%, up from 2.20% a week ago. So bond markets are actually pricing in higher inflation expectations despite the GDP slowdown. Lucas: That's the inflation premium. Markets see the tariffs, the tight labor market, and the fiscal spending from the World Cup and other programs, and they think inflation sticks around longer than the Fed hopes. That's a problem because if long-term inflation expectations drift up, the Fed may have to hike again. Luna: But hiking when growth is already at 1.5% would risk a recession. That's the classic Fed dilemma. Lucas: Exactly. So they're stuck. They can't cut because inflation is too high, and they can't hike because growth is slowing. That status quo might persist for months. Luna: All the more reason to keep an eye on those weekly jobless claims. If they breach 220,000, that's a signal. Lucas: Absolutely. And on that note, we'll keep tracking it for you. Thanks for listening, and if you want to support the show, you know where to find us. Luna: We'll be back tomorrow with more.