Diane Swonk has been predicting the Federal Reserve will hike its key rate this year as early as September, as inflation remains above its two percent target and the economy continues to grow fast enough to keep unemployment around the 4%, level.
So what does KPMG’s Chief U.S. Economist see now after the latest employment report shows that jobs jumped from 62,000 in July to 162,000 last month, the third biggest jump in jobs since April 2024? Does this boost the odds of a rate hike at its September meeting?
For starters, Diane says that while the headline number was strong, the details show it was driven by several temporary and seasonal factors, such as the rehiring of education workers and the return of jobs in leisure and hospitality after the expiration of temporary protected status for Haitian workers.
Dissecting the numbers further she points out that the unemployment rate remains low at 4.1%, and the participation rate increased, particularly among young workers. Yet, she cautions that August is a difficult month to interpret due to seasonal adjustments, especially as many young people return to school.
Diane also zeroes in on a quirk in the U-6 unemployment rate, which includes part-time and discouraged workers. In August it fell from 7.9% to 7.7%, but the number of long-term unemployed actually increased. “The level of unemployment at 4.1%, still was not low enough to remove the stigma of long term unemployment...those workers swelled in ranks from 1.8 million to 1.9 million.”
“We have an economy that in the aggregate still looks a lot better on paper than it feels to most Americans, “ she says. “And if my inbox on my LinkedIn is any indication, I’m getting all the grief of all the people who still have not been able to find a job.”
So what does the jobs report means for the odds of a Fed rate hike this month? “Warsh said in Jackson Hole was our focus is more on inflation than it is on the labor market right now, Diane notes. “The debate within the Federal Reserve is how long do we hold versus whether, when we hike and how rapidly do we need to hike.”
“You know, with the initial blush of the numbers, the markets increased their pricing for a September rate hike. I personally think there should be a September rate hike,” she says.
So dive and find out why she thinks the Fed has not yet made up its mind. Spoiler alert: Diane says the coming August consumer price report could hold the key.
“Now, whether or not the Fed actually moves forward on that will depend heavily on the inflation numbers next week, which, you know, that means they’re still very data dependent, even though I think that’s something that Chair Wash wanted to get away from a bit.”
Bonus: hear about a Chatham House Rules meeting Diane attended with economists in industries across the country showed that “inflation pressures in the pipeline <are> just extraordinary and there’s more to come.”
Good as far as the headline is concerned 00:01:10:21
Yeah it is. And part of that was there was a lot of things going in underneath the hood on the numbers. The number was good. But we had you know, in July we lost a lot of workers in education. And that’s a it’s a seasonal quirk. Schools shut down at different times than they once did. They open up earlier than they once did.
Leisure and hospitality jobs rebound 00:01:30:03
And we more than regained those jobs in the month of August. So that was about over 50,000. Was that alone? We also saw in the previous two months there was the expiration of the temporary protected status of Haitian workers. And that stripped it looked like about 75,000 jobs off of leisure and hospitality in June and July. And then we got 65,000 back in the month of August.
Sifting through the Tea leaves 00:01:56:22
And those were jobs that were filled, that were then empty. So it’s not clear on net that were actually up. But at the end of the day, we’re still at a 4.1% unemployment rate. The participation rate actually increased. Now again, it was in an area we worry about on a seasonal. August is kind of a funny month to capture.
Youth/teen participation rate rises 00:02:15:22
The increase in the participation rate came among 16 to 24 year olds. And you know, we’re not sure if that’s because it just naturally drops and it’s seasonally adjusted up because people return to school earlier. But at the end of the day, it was a better than expected number. And that’s good news. We also saw wage gains are only 3.1% year over year.
Wages show soft gains; Atlanta survey shows more pressure 00:02:38:16
However, we know that those average hourly earnings are not actually the median wages that people are getting. The Atlanta Fed, which sort of gets better at the median wage and weights it by how actual jobs are in the economy. That actually showed an acceleration in the month of July along with job hoppers getting a premium. And that’s good news.
U-6 rate falls, but long term unemployed still struggling 00:03:01:14
The one sort of undercurrent that I thought was negative under the hood. It was also good. We saw what we call the U6. Remember, that’s the part-time workers having to accept part-time work instead of full-time or the long-term unemployed. The U6 unemployment rate fell from 7.9 to 7.7%. Good news as well, but the length of unemployment, the 4.1% still was not enough to remove the stigma for the long-term unemployed. Those are people unemployed more than 27 weeks, and those workers swelled in ranks from 1.8 million to 1.9 million back to June levels and the duration of unemployment went up a little bit. So there’s still this sort of when I think you put it all together with what we’ve seen in previous months, instead of looking at a three-month moving average, it’s more like 70,000 or so, but that’s still a lot better than what we initially saw.
Better than a year ago 00:03:57:10
It’s better than what we saw a year ago. I mean, a year ago we were seeing 15,000 jobs a month, and we had these big downward revisions. And this is a month that tends to be historic. August is revised up after the. Initial report. And so that’s good news.
Economy looks better than it feels 00:04:33:16
It’s a great question because we have an economy that in the aggregate still looks a lot better on paper than it feels to most Americans. And if my inbox on my LinkedIn box is any indication, I’m getting all the grief of all the people who still have not been able to find a job. And I understand that. We know, you know, it’s lag.
Labor market: still a subdued job creator 00:04:53:18
The New York Fed calculates the new college grad unemployment rate, but that from June was at 5.7% versus the unemployment rate being so low. The gap between the new college grads and the overall unemployment rate is more akin to something we saw coming out of the Great Recession, not what you would expect six years into an expansion. And so they’re still is not a lot of healthy churn in the labor market.
Fed focused on Inflation target now 00:05:20:02
That said, you know, from the Fed’s perspective, they manage to the economic aggregates. And Warsh said in Jackson Hole, our focus is more on inflation than it is on the labor market right now. They’re not as worried as they were a year ago or especially in the fall. And we had that six-week government shutdown, which had collateral damage, and it raised the unemployment rate even more.
Fed willing to call it full employment; not so much the unemployed 00:05:42:04
That has sort of dissipated. And now the Fed is saying, listen, at 4.1%, we consider that full employment, even though a lot of individuals and I think a lot of households are not feeling like this is a full employment economy.
September rate hikes seems more likley 00:06:11:04
Yeah. You know, the at the initial blush of the numbers, the markets increase their pricing for a September rate hike. I personally think there should be a September rate hike. Now, whether or not the fed actually moves forward on that will depend heavily on the inflation numbers next week, which, you know, that means they’re still very data dependent, even though I think that’s something that Chair Wash wanted to get away from a bit.
Good reason to hike 00:06:34:03
But I do think that there’s a good reason to be hiking right now. I am very concerned about. I was on a call earlier this week, Kathleen, one of these Chatham House rules, so I can share the information, but I can’t.
Inflation pressures in the pipeline 00:06:47:02
But it is. We had 50 economists from different industries across the country and it and across the board. The inflation pressures in the pipeline were just extraordinary. And they’re saying there’s more to come. And even, you know, some of the industries that have held the line on prices, like the auto industry, they saw that big surge up in prices in the wake of the pandemic.
Widespread pressures; on top of already high prices 00:07:09:12
And then they tried to really hold the line on prices and absorb the cost of tariffs so that they didn’t lose more buyers. They’ve already got just a 20% of top 20% of households are the only ones who can afford a new car. And all of these industries were saying the same thing is that the pricing pressures are coming, and we have no other choice but to pass them on. And you’re seeing that as well in the service sector and in the manufacturing sector. ISM, which are those surveys, their pricing components suggest there’s a lot more pricing pressure in the pipeline.
Tariff effects percolate 00:07:55:19
That’s not just tariffs. You’re exactly right now tariffs are they do go into things like restaurants and things like that. And, actually one of the interesting new research from the Minneapolis Fed that just came out this week or last week, it was showed that the full pass through of tariffs is still not there, which is kind of a surprise because I think most people at the fed have decided it’s now behind us.mAnd of course there’s more tariffs being weighed. And we have these sort of now what looks like a decoupling or a bilateral agreements under the USMC. trade agreement as well. And there’s a trade war with Canada now that’s affects Canada more than it affects us. But nonetheless threats of more tariffs on the horizon and still the reinstatement of many of the tariffs that were reversed by the Supreme Court with what are called section 301 tariffs as well.
Service inflation- a problem 00:08:46:16
But tariffs are not the main issue out there. And you’re exactly right. The issues in the service sector I think are aging demographics, huge demand for services, very wealthy baby boomers spending and willing to keep spending buoyed on discretionary purchases even as lower and middle income households struggle with their discretionary purchases. And then we also have benefit. Costs are going up at their fastest rates in decades.
Health care costs rising 00:09:12:08
I mean, we’re seeing this massive surge in the cost of health care that people are paying. They’re going to be paying that. And we don’t measure that the way they measure it in the CPI is it actually looks like benefit costs have been deflating rather than inflating or not going up as rapidly. But the co-payments are going up quite rapidly.
Lots of cross current in prices but many are in excess 00:09:32:05
But they measured in other places and all the costs of health care, and those are things that are becoming more entrenched. And that’s what I think matters the most of the Fed right now, because that’s not just noise. But you heard Kevin say in his remarks, about the dispersion of prices. It’s got more prices above 3% than prior to the pandemic. And that makes it harder, especially in services. Maybe what we worry about is after five years, this is becoming more entrenched.
As for lower rates…US credit rating in fact has been downgraded 00:10:28:11
Credit rating of the US has been downgraded because our fiscal situation is not sustainable. And so that’s what we’re seeing. We’re actually seeing bond buyers, bond buyers, foreign bond buyers in the US Treasury bond market in 2008. Now that was an extraordinary period. But we exported a crisis around the world on the subprime crisis and the global financial crisis.
The Fed is not a symphony, and politicians do not direct it 00:10:49:18
And at that point in time, we had this sort of rush to safety, the safe haven. 60% of bond buyers were foreign buyers. Today, that’s down to 30%. And we’re seeing very high profile investors saying they’re not interested in buying U.S. bonds anymore. Now they’re investing in our equities, which is blowing equity market prices. But they’re not buying up our treasury bonds like they once were. And you know, whatever people think about, you know, what a politician says about what they think interest rates should be. That isn’t really what the market looks at. The market looks at what is our fiscal situation, what kind of deficits do we have? We’ve now eclipsed the size of public debt held by the public of the World War two. And that, you know, is very unusual. And so those kinds of things I think are. I think there was a sticker shock once we crossed 40 trillion on the US debt, and we’re on track within the next couple of years. It’s compounding so quickly with our deficits to cross 50 trillion as well. Well.
Most important is an independent central bank 00:12:23:02
I think the most important way to be thinking about this is that, you know, an independent central bank is critical, and we have to have an independent central bank, a central bank that’s not considered doing political favors or bending to the whims of politicians, regardless of what party they’re in. And I think that’s an important thing to keep in mind.
The rate-cutting Fed mindset is gone 00:12:46:21
And sadly, these kinds of statements actually put the Fed in more of a defensive position and ups the ante that they have to hike more than even a hold could look political if the inflation data comes out hotter next week. Now, if it looks really cool, they might get another waiver and say, listen, we’ve got you know, it looks like inflation is coming under control or we’re going to wait and see what you really the debate within the Fed is, is no longer about cutting right now.
Debate has switched to how MUCH should the Fed hike 00:13:18:03
The debate within the Federal Reserve is how long do we hold versus whether, when we hike and how rapidly do we need to hike? What struck me in the meeting I had earlier this week was how many people were discussing, how much do we need to hike to derail what they were seeing in their own order books? Well, and that’s a very different kind of debate.
Fed can cut rates but it doesn’t always drive the bond market 00:13:41:00
I don’t know any politician that’s been happy with the Fed all the time. That’s just a given. And it’s true of any central bank. But that said, we know the central bank. Listen, rates right now the bond market rates are higher than they were when the Fed started cutting in 2024. And I think that’s important to remember as well, is that if the Fed was the only one that controlling the bond market, rates would not be as high as they are right now.
Productivity is up 00:15:04:13
I think one of the most important issues here is that we have seen productivity pick up. And it’s not AI related per se yet, but productivity post-pandemic has picked up. And part of it’s because we learn to use all the stuff that we didn’t use like this right prior to the pandemic. Also, it’s because we had better matching when we had that frenzied labor market.
There was considerable Post-Covid learning 00:15:27:19
People actually finally got to be in jobs that they belonged in, in more productive companies. That raises productivity growth as well. But we know in economics, when you raise productivity growth, you raise the rate at which the economy can grow without giving us inflation. But it means the neutral rate for the Fed, that short term interest rate, actually goes up, not down.
A legitimate debate on the rate 00:15:49:19
And that’s what many in the Fed is trying to grapple with as well. Is the current rate actually neutral? Is it modestly restrictive? Is it enough to bring inflation down on its own? Or, is it actually too low now given that we’ve had this move up in productivity growth? And that’s a legitimate debate to have.
Waller has unpacked his optimism 00:17:05:00
You know, I think on the board there are several people that are leaning towards a hike, but again, they’re waiting for that. We saw Waller come out this week and say, well, if there’s a bad inflation report, I’m ready to hike. Otherwise, I’m willing to wait and see. He said that in July as well. He’s come off a little bit less hawkish than he was into.
A number of voters are on inflation watch 00:17:24:14
Why, on the flip side of it, Barr, who’s also on the board of governors, sounds a little more hawkish. Lisa Cook has talked about well I’m going to be watching that August inflation number to see if it comes in hot. So, if we have a hot number on the inflation read next week, I think you do have pretty much a sealed rate hike in September.
The Fed seems quite divided on this issue 00:17:43:20
If the number is somewhere in between, not too hot, and still elevated, then the Fed will start thinking about, you know, can we wait one more meeting? Well, we’ll see, let’s wait and see. But it really is pretty much split down the middle between those who want to wait and see and those who are ready to hike.
Looking for a hot CPI; but focused on PCE components 00:18:08:07
So, I’m looking for a CPI to actually heat up a little bit this next month because we’re going to have a little bit higher energy prices. That will bouy it a little bit. And what I’m really going to be watching is what is that underlying <pace>. And it’s not the CPI. Then the components that go into the PCE, the Fed’s target and that’s what we’ll be watching very closely… are airfares still falling?
Will watch the super-core 00:18:31:04
Are hotel room rates falling? Airfares were up last month. Are they coming down now? But, also, more importantly, what’s going on in that underlying service sector inflation? And that’s where I think it’s still going to be quite sticky. And that’s what I’m worried about. It’s what we call the super core inflation number, where you strip out shelter costs and you look at what is the service sector really doing, which is over half of the PC number, and it’s not as weighted as much in the CPI.
There seems to be a lot of inflation pressures 00:18:59:11
That’s what I’ll be watching. But also, what will also go into that decision ,is not just the CPI, it’s also the PPI. And I think that’s going to come in hot, given what we’ve what I’m hearing and what we’ve seen in these survey numbers, it looks like there’s more out there. Remember diesel prices. And you know this is say it’s transitory whatever.
A chorus of hawks… but they don’t all vote 00:19:19:12
But diesel prices are at a record high right now. They get into everything within a month to four months. And so that suggests we’re going to get a and inflation. And what I worry about is that those shocks on top of the service sector inflation risk, this muscle memory that I think you hear hawks like Beth or Schmidt or Neel Kashkari, you know, Austin Goolsbee, all of them are sort of voicing from that same hymn book.
Is there a rate hike cycle ahead? 00:20:28:13
And that is that is what the debate is about. And that’s what, you know, much of our conversation was about. You know, the longer they wait and if inflation really doesn’t settle down and stay down, then they could really be behind the curve. And usually rate hiking cycles are cycles. Not just one and done, not just two and done.
Blinder: a dove, or a rate hike 00:20:48:17
And you know, I was I was struck by an interview with Alan Blinder at, you know, Jackson Hole. And he was talking about he was glad that Kevin Warsh had put both sides of the Fed’s mandate back into his speech. However, he said even himself, since the Fed is kind of moving incrementally these days and he’s a dovish kind of guy that he and former vice chair of the Fed, that he would be hiking by a quarter point in September, which to me says an awful lot.
When the skeptics are pulled in its time to take notice 00:21:34:14
Yeah that’s a big deal. It’s a big deal. That’s a that’s a threshold. You know, I mean like we all know these people for a long time. And Kathleen, we’ve known each other more decades than we like to care to admit sometimes. But I think that’s really important, to understand that, you know, people who have been doing this for a long time and thinking about it and people that, you know, tend to lean on the side of not hiking, that they’re thinking about it.
It’s about the rear view mirror more than the windshield 00:21:57:20
This is not just a hawks versus doves. This is people are really worried that we’ve had over five years of inflation and it’s still with us.
Diane Swonk is Chief Economist at KPMG U.S. She started her career with money-center bank First Chicago and has won many awards in her career for her excellence in her profession and leadership in the broader business community. She climbed from entry-level to Director of Research and Chief Economist at Bank One, the merged bank. Before joining KPMG, Diane had her own economic consulting firm and worked at Grant Thornton. She spent the prior 10+ years as Senior Managing Director and Chief Economist at the financial services firm, Mesirow Financial.
She served as an advisor to the Congressional Budget Office (CBO) and the National Economic Council (NEC) on a nonpartisan basis. She regularly briefs the regional Federal Reserve banks and the Board of Governors in Washington, DC. She has provided Congressional testimony on income inequality and how to preserve and bolster the quality of government statistics on the ecnomy.
She was honored by her peers as Fellow of the National Association for Business Economics (NABE) for her outstanding contributions to the field. She serves on the NABE statistics committee to advocate for better information on the economy. Diane serves on the board of the Posse Foundation in Chicago, an organization dedicated to increasing access to higher education. She is active in supporting scholarships and programs to diversity the ranks of economists with more women and underrepresented minorities with her alumni groups and work on the NABE Foundation. She is a member of many business groups, including the Economic Advisory Board of the US Chamber of Commerce, and the Council on Foreign Relations.
Diane recently took over the growing economics team at KPMG to serve partners and clients, and to engage with the media to help showcase the firm’s many achievements. Diane was named one of the top 50 most influential economists during the pandemic. She has won numerous awards through the financial press and been recognized for her excellence in forecast by the regional Federal Reserve banks.
