Latest / The Macro Memo with Fexingo: Daily Conversations on Inflation, GDP, and Federal Reserve Policy / Why the Job Market Is Sending Mixed Signals to the Fed
Transcript
- Lucas: So the June jobs report lands, and on the surface it is a head-scratcher. Payrolls added just 57,000—way below even the most cautious forecasts—and yet the unemployment rate actually ticked down to 4.2 percent from 4.3. You look at that and you think, how do you add so few jobs but have fewer people counted as unemployed? Luna: Right, the math only works if people stop looking for work. And that is exactly what happened. Lucas: Exactly. The labor force participation rate fell to its lowest level outside of the pandemic in fifty years. That is a huge structural signal hiding inside a headline that most people just read as 'soft jobs number.' Luna: And we should say, this show is ad-free and listener-supported. If walking through the economy with us has made something click, you can help keep it that way at buy me a coffee dot com slash fexingo. Now, back to that participation drop—what does it actually mean for the Fed? Lucas: Well, the Fed is stuck at 3.63 percent on the funds rate. They have been there since June. And the data they care about most—core PCE—is still sticky at 130.1 on the index. That is up from 129.67 in April. So you have inflation that is not really falling, but you also have a labor market that looks soft in the payrolls number and tight in the participation number. Luna: Which is exactly why the bond market is not panicking. The ten-year breakeven inflation rate is basically flat at 2.23 percent. The market is not expecting a breakout in prices. Lucas: Right, but that creates a tension. If the Fed sees a tight labor market underneath the surface—because fewer people are even available to work—they might worry that wage pressures could reaccelerate. Average hourly earnings ticked up to $37.60. That is not a huge move, but it is a move. Luna: And yet, the payrolls number itself was weak. So is the labor market loose or tight? It feels like we are looking at two different economies. Lucas: I think the honest answer is that the headline payroll number is being distorted by one-off factors. Goldman Sachs estimated the World Cup boost alone added maybe 40,000 jobs to the June report. Take that out, and you are looking at maybe 17,000 organic jobs. That is very soft. Luna: But the World Cup boost would have pushed payrolls up, not down. So the 57,000 is actually weaker than it looks, because it includes that temporary bump. Take away the 40,000, you are at 17,000. That is basically flat. Lucas: Exactly. And that is where the participation story gets really important. Because if the economy is only generating 17,000 net new jobs in a month, but the population is growing, the participation rate should be falling. And it is. But the question is whether that is a cyclical thing—people discouraged by a soft patch—or structural, like aging demographics and long-term disability. Luna: The Fed has to guess which one it is. If it is structural, the natural rate of unemployment might actually be lower than they think. If it is cyclical, then the labor market has more slack and they can afford to wait. Lucas: And right now, they are waiting. The Fed funds rate has been at 3.63 since June. The effective rate is also 3.63. Interest on reserve balances is 3.65. They are in a holding pattern, and this jobs report does not give them a clear reason to move. Luna: But the market is starting to price in a cut later this year, right? The yield curve uninverted a while ago, which historically has been a recession signal. Lucas: The yield curve uninversion is worth a whole separate episode. But briefly: when the two-year yields more than the ten-year, that is an inversion, and it has predicted every recession since the 1970s. When it uninverts, it means the market thinks the Fed is about to cut. But sometimes the recession hits after the uninversion, not during the inversion. Luna: So the bond market is basically saying, we think the economy is going to slow enough that the Fed will have to cut. But the equity market is at all-time highs. The S&P is at 7,483. The Dow is at 52,900. That is a pretty big disconnect. Lucas: It is. And the Russell 2000, the small-cap index, is actually down over the past five days—2,996, off half a percent. So the rally is really in large caps, tech, the names that benefit from AI enthusiasm and global scale. Small caps are struggling, which is more consistent with a slowing economy. Luna: So the message from the data is: the consumer is still spending, but the labor market is losing momentum. And the Fed is stuck watching and waiting. Lucas: And that is the macro story of July 2026. The economy is not falling off a cliff, but it is not accelerating either. It is this weird in-between where every data point gets parsed for directional clues. And the participation rate is the one I am watching most closely. Luna: Because if it keeps dropping, the Fed might start to worry about wage inflation even if payrolls are soft. That would keep them on hold longer than the market expects. Lucas: Exactly. A lower participation rate means a smaller pool of available workers. Companies that need to hire have to compete harder for fewer people, which pushes wages up. And if productivity does not keep pace, that feeds into unit labor costs and eventually into prices. Luna: But we have not seen that in the core PCE yet. It is sticky, but not accelerating. So maybe the wage pass-through is slower than in the past. Lucas: Or maybe it is being offset by other factors—like the strong dollar holding down import prices, or global disinflation from China. The point is, the Fed has to weigh all of these crosscurrents. And one soft jobs report does not change the calculus. Luna: What about the JOLTS data? Job openings ticked up to 7.594 million in May from 7.585 million. That is basically flat, but it is still a high number historically. Lucas: It is. And quits rates have been stable. That suggests workers are not panicking. They are not leaving jobs in droves, but they are also not seeing a ton of opportunities to jump. It is a labor market that is normalizing, not collapsing. Luna: So if you are the Fed, you look at that and you think, okay, maybe we can afford to be patient. Inflation is still a bit above target, the labor market is cooling gently, no need to rush. Lucas: Right. And that is exactly what they are doing. The next FOMC meeting is at the end of July. I think they hold. The real question is September. By then, we will have two more jobs reports and another CPI print. If participation stays low and payrolls stay soft, the pressure to cut will build. Luna: And if inflation ticks up? Then they are stuck. Lucas: That is the stagflation-lite scenario that nobody wants to talk about. But the data is not there yet. Core PCE is elevated but not accelerating. The ten-year breakeven is 2.23, which is basically right on top of the Fed's target. So the bond market is not pricing in a breakout. Luna: That is the one number that gives me the most comfort. If the bond market thought inflation was coming back, breakevens would be moving higher. They are not. Lucas: Exactly. So I think the base case is: the Fed stays on hold through the summer, maybe cuts once in the fall if the data weakens further. But the participation rate is the wild card. If people start coming back into the labor force, that changes everything. Luna: And if they don't, we are looking at a structurally tighter labor market that could keep rates higher for longer. Lucas: That is the debate. And it is why every jobs report from here matters more than usual. The headline number is almost less important than the composition—who is working, who is looking, who is giving up. Luna: Well, we will be watching. Thanks, Lucas. Lucas: Thanks, Luna. We will be back tomorrow with another angle.