Connor Hare

Despite there only being a handful of economic data releases this week, each was influential to the economic outlook. This included the preliminary benchmark revision for employment, as well as the consumer and producer inflation reports for August. While the data was somewhat concerning, financial markets largely took it in-stride as expectations for next week’s Federal Reserve decision remained in-tact. The S&P 500 rose 1.6% on the week, with U.S. Treasury yields seeing little change as of the time of writing.

The preliminary revision to non-farm payrolls released on Tuesday will not be incorporated into the official data until the January 2026 release, but the snapshot it provided was concerning. Estimates of employment for the year through to March 2025 were revised lower by 911k jobs, which would be the largest revision since 2009 (Chart 1). This comes on the heels of last week’s employment report for August, which showed only 22k jobs added during the month and the unemployment rate rising to 4.3%. The emerging shift away from full employment in the economy is likely to be a top priority during Federal Reserve deliberations at next week’s meeting.

However, they will also have to assess the emerging risks to the other side of their dual mandate related to price stability, with the data we received this week on inflation also raising concerns. Those with dovish predispositions may point to the surprise decline in the producer price index (PPI) in August as evidence that price pressures are under control. However, the rolling 12-month volatility of the PPI final demand index excluding food & energy has hit its highest level since mid-2022, likely reflecting the impact that constant trade policy changes have had on firm pricing decisions. Single-month changes in the PPI therefore need to be taken with a grain of salt and illustrate the challenges the Fed faces in assessing price developments in 2025.

On the consumer inflation front, we saw further upward pressure on goods prices in August, while services inflation also remained elevated. With the three-month annualized percent change in core CPI accelerating to 3.6% in August (Chart 2), the Federal Reserve’s response function would typically be to consider raising interest rates in such an environment, all else equal. However, given the temporary nature of tariff-induced inflation and the flagging labor market, the full balance of risks will need to be taken into consideration. Amid this backdrop, in conjunction with the sustained stability in consumer inflation expectations, we expect the Fed to implement its first 25 basis point cut of the year next week.

Further interest rate reductions are expected to be implemented gradually through the end of the year, to provide support to the economy without fanning the flames of inflation anew. This is expected to be a delicate maneuver by the Federal Reserve, and one that will be sensitive to the balance of incoming economic data.

This was a short but volatile week in financial markets. Earlier in the week, equities and bonds sold off amid growing concerns about the long-term sustainability of government debt in the U.S. and other developed nations. These concerns stemmed from increased borrowing needs and reduced demand for government bonds, particularly from central banks. Long-dated bonds were particularly under pressure, with the gap between 30-year and 10-year Treasuries rising to 0.7 percentage points—the highest since 2021.

In the U.S., fears were amplified by questions around the Federal Reserve’s independence and inflation risks linked to tariffs. Adding to the fiscal alarm was a court ruling that IEEPA tariffs were imposed illegally. The case now heads to the Supreme Court, and if the decision stands, it could jeopardize this revenue stream and leave the government liable for billions in refunds.

However, sentiment reversed on Wednesday, with bond yields falling and equities rising. It was a classic case of “bad news is good news,” as softer-than-expected economic data – namely the lower job openings in the JOLTS report – boosted expectations of more aggressive rate cuts from the Fed. Given last month’s downward payroll revisions and modest job gains, investors were already on alert for signs of ongoing labor market weakness ahead of Friday’s payroll report. They didn’t have to look too hard.

August’s payroll report confirmed that the labor market is softening quite quickly (Chart 1). Job growth was well below expectations in August, with just 22k new jobs added,  and has averaged only 29k over the past three months (see commentary). Goods-producing industries, especially those exposed to tariffs, continued to shed jobs for a fourth straight month. Government employment also declined. The services sector added 63k jobs, but gains were not broad-based. Education & health added 46k jobs and 28k were in leisure & hospitality. While employers are not rushing to hire, they aren’t cutting jobs en masse either. Still, the jobless rate edged up to 4.3% from 4.2% the prior month, reaching a new post-pandemic cyclical high.

Playing second fiddle to the payrolls number, the July JOLTS data also surprised with weaker-than-expected job openings, which declined to 7.18 million from 7.36 million. Openings also fell below the number of unemployed for the first time since 2021—though the margin has been narrow since mid-2024 (Chart 2). Quits and layoffs were little changed, suggesting the economy remains in a “low hiring, low firing” state.

Fed officials have recently become more concerned about the downside risks to the labor market, and the August payrolls report shows these concerns are valid. As such, we maintain our view that the Federal Reserve would need to deliver 75 basis points in rate-relief this year, with the first one coming in less than two weeks.

President Trump continued to pressure Federal Reserve officials this week, this time attempting to fire Governor Lisa Cook for alleged mortgage fraud. The situation remains influx, as Cook is contesting the President’s actions in court. But the mere threat of her removal has sparked further concerns of central bank independence, sending shorter-term yields lower. The yield curve steepened on the week, with the 30-to-2-year spread widening to its highest level since early-2022 (Chart 1). Meanwhile, equity markets largely shook off the news, as investors’ attention remained squarely focused on this week’s earnings reports, including Nvidia and several large retailers. The S&P 500 briefly hit another all-time on Thursday, but retraced on Friday and looks to end the week slightly in the red.

Turning to the economic data calendar, the Bureau of Economic Analysis released its second estimate of Q2 real GDP. Relative to the first release, economic growth was revised higher by 0.3 percentage points to 3.3%. While net trade remained a major source of growth, a good chunk of the upward revision came from stronger business investment, specifically in categories that are likely tied to AI investments. In fact, spending on ‘computers & other peripheral equipment’ and ‘software’ accounted for all the growth in business investment through the first half of 2025.

Final sales to private domestic purchasers – the best gauge of underlying domestic demand – was raised from 1.2% to 1.9% and is now on-par with Q1’s rate of expansion. While this marks a deceleration from H2-2024 (Chart 2), it suggests the narrative of ongoing economic resilience hasn’t completely fizzled out amid ongoing trade uncertainty.

This point was further underscored in the Gross Domestic Income (GDI) figures, which accompany the second estimate of GDP and serve as an alternative measure of economic output. Real GDI rose a healthy 4.8% in Q2 – up from a flat reading in Q1. Corporate profits rose 7% annualized, despite elevated cost pressures from tariffs, while household income also continued to expand at a +5% clip.

Despite the healthy gains in income, households have become increasingly selective in their spending. Real PCE rose 0.3% month/month in July, with most of the gains coming from an increase in durable goods. Vehicle sales had a heavy hand in the uptick, as consumers appear to be pulling forward purchases to get ahead of tariff price increases which will likely materialize later this year once OEMs roll over to 2026 models. But it’s the discretionary services spending that remains weak, a theme that has played out through most of this year and something that’s unlikely to change until households have more certainty about the economic outlook.

With inflationary pressures heating up, this is unlikely to come anytime soon. Core PCE inflation rose 0.3% m/m, pushing the year-ago measures to 2.9% – a five-month high. Hotter services inflation was the major driver in last month’s uptick, something that is likely to further embolden Fed hawks. This puts next week’s employment report sharply in focus. Consensus currently expects payrolls to add 75k jobs in August. A stronger reading could push back on the odds for a September rate cut, which is currently 90% priced in.

It has been one week since the full complement of reciprocal tariff policies went into effect. Those tariffs will not have an influence on the economic data for a few months, but the tariffs that prevailed through the first half of the year continued to show up in the July inflation readings released this week. This included the CPI and PPI, both of which showed signs of rising price pressures that are expected to trend higher over the coming months with the new tranche of tariffs now in effect. Largely undeterred, equity markets continued to probe record highs, with the S&P 500 rising 1.0% on the week and notching a double digit return year-to-date (Chart 1).

The first inflation report we received on Tuesday showed consumer price growth accelerating in July, with the annual percentage change in core CPI rising above 3% for the first time since February. This was driven by stronger core goods prices, largely related to higher tariff passthrough, while core services inflation also trended higher (Chart 2). Producer prices, which we received on Thursday and measure the prices charged by U.S. businesses, also began to trend notably higher in July with the monthly change hitting a 3-year high. This likely suggests that businesses are shifting to pass on more of the higher costs associated with tariffs to consumers after largely absorbing the costs in the first half of the year. Moving forward, with the effective U.S. tariff rate nearly 10 percentage-points higher after last week’s reciprocal tariffs came into force, inflationary pressures are expected to remain elevated through the second half of the year.

The Federal Reserve has been acutely attuned to these developments, with the central bank remaining on hold since the start of the year. Although a few Federal Reserve officials have advocated for rate reductions, the balance of the FOMC continues to voice caution regarding the uncertainty surrounding the outlook for inflation and the economy. The officials we heard from this week, including regional Fed presidents Schmid (Kansas City) and Goolsbee (Chicago) who are voting members of the FOMC this year, noted that caution was still warranted. Market pricing fluctuated this week, but currently has 90% odds for a rate cut in September. The annual Jackson Hole Symposium next week will be watched closely after this week’s inflation reports for any signs on the leanings of officials in the run-up to the next Federal Reserve decision in one month.

On a more positive note, retail spending appeared to remain healthy in July, growing 0.5% month-on-month. However, July also had Amazon’s multi-day Prime day event which tends to boost sales activity. A non-outsized reading could suggest that consumption is beginning to slow in line with the downward revisions to the labor market recorded in the second quarter. This is part of the reason why Federal Reserve officials have continued to advocate for caution, noting that it will take time to properly assess the state of the U.S. economy amid the fog of various shifts in trade policy.

Next week, we’ll receive the FOMC meeting minutes for July as well as the July reading for PCE inflation which should help formulate expectations for September’s Fed meeting. With trade policy uncertainty waning gradually, the attention of markets will shift back towards the Fed.

It was a quiet week on the economic data calendar, but with earnings season in full swing, further trade announcements, and several Fed officials out speaking, there were no shortage of developments for investors to sift through. To say this earnings season has gone better than expected would be an understatement. At this point, over 80% of companies included in the S&P 500 have reported second-quarter earnings. According to Reuters, after factoring in analysts’ forecasts for the remaining 20%, profit growth is tracking close to 12% annualized. That’s more than double what was expected just one month ago, and has without question been a driving force sustaining the recent strength in equities. At the time of writing, the S&P 500 is up 2% on the week and 8.5% on the year. Meanwhile, term-yields climbed a bit higher on the week, even after President Trump appointed Stephen Miran to complete Adriana Kugler’s brief remaining term on the FOMC, and more dovish leaning Governor Waller was reported to be the frontrunner for Fed Chair.

But we would argue that the run in equity markets this year is built on a shaky foundation. Inventory stockpiling and a haphazard rollout of the administration’s tariff policies meant that many businesses were able to circumvent or significantly limit tariff exposure last quarter. But that’s not going to continue. As of August 7th, dozens of trading partners now face significantly higher tariffs as per the Executive Order released by the White House on July 31st. By our estimates, the current effective tariff rate in the U.S. is around 19%, or the highest level since 1933 (Chart 1).

Over the near-term, it’s very likely that the U.S. tariff rate pushes even higher. The Trump administration singled out India this week, threatening an additional 25% tariff on August 27th and hinted at further tariffs on semiconductors – potentially as a 100% – and pharmaceuticals over the coming weeks.

While the economy had demonstrated unwavering resilience earlier in the year, more recent data has shown that ground is starting to shift. This week’s ISM services report provided further evidence that the economy is slowing, with the services index slipping to 50.1 or just barely remaining in expansionary territory. Details of the report came with plenty of ‘stagflationary undertones’, with new-orders, business activity and employment all turning lower, while the prices paid sub-component remained near its cyclical high.

The shift in economic data has led Fed officials to pivot on their communication, with regional Fed President’s including Neel Kashkari and Mary Daly – neither of whom are voting members – to suggest that rate cuts are coming in the months ahead. Meanwhile, Governor Cook characterized last week’s tepid jobs report as ‘concerning’ and noted that the significant downward revisions to the May/June figures, which were some of the largest on record, are ‘typical of turning points in the economy’ (Chart 2). Next week’s CPI inflation data will shed more light on the extent of tariff passthrough, but even that is feeling somewhat backward looking given this week’s reset on tariff rates. Ultimately, the weakness in the labor market cannot be ignored and (in our view) solidifies the case for a September rate cut.

Financial markets were jittery to start the week, with the 90-day delay on the April 2nd “reciprocal tariffs” set to expire on Wednesday in financial news. While President Trump ultimately extended the deadline for another few weeks, he simultaneously ratcheted up trade threats on various fronts. He announced a 50% tariff on all copper imports, raised the tariff rate on Brazil to 50% and Canada to 35%, all effective August 1st. For Canada, the details remain sparse, but it’s assumed that all exports that are USMCA complaint – which is just under 60% of goods – would remain exempt from these tariffs. In addition, the administration sent letters to 21 other countries, including larger trading partners like Japan and South Korea, also threatening significantly higher tariffs come August. In total, the 23 countries put on notice account for $827B (or 25%) of annual U.S. imports – after accounting for USMCA compliance. Combined, these additional tariffs would raise the effective tariff rate by 2.2 percentage points if they come into effect August 1st, bringing it to 17%, or the highest level in nearly a century (Chart 1).

Investors appear to be taking the latest trade escalation in stride. U.S. equity markets briefly hit a new record high on Thursday, but then retraced on Friday in response to President Trump’s tariff threats on Canada. The S&P 500 looks to end the week 0.4% lower but is still up 6% on the year. Meanwhile, longer-term Treasury yields were a touch higher on the week, despite another healthy 10-year Treasury auction on Wednesday. As of the time of writing, the 10-year sits at 4.41%.

But the recent calm that has descended over global financial markets feels eerily tenuous, particularly amidst the ongoing shifts in trade policy and Q2 earnings season set to kickoff next week. Last quarter, much of the guidance companies were providing was purely speculative, as tariff policies were only in the early stages of being rolled out and were also changing on an almost daily basis. However, now that the tariffs have been in place for some time, companies are likely in a better position to gauge their impact and provide updates to earnings guidance for the second half of the year.

With the inflation impact so far proving more subdued than previously expected, there’s been a growing divide among FOMC members on when to resume rate cuts. Minutes from the June 17-18 meeting released on Wednesday showed that while most committee members favor delaying cuts until there’s more certainty on the inflation and labor market impacts, recent speeches suggest that two board members – Governor Waller and Bowman – support cutting rates as early as July.

This puts next week’s CPI inflation release under the spotlight. We expect the June CPI report to show inflation having strengthened, with both goods and services price pressures having heated up relative to May. But at this juncture, the uptick is unlikely to unnerve policymakers, particularly with inflation expectations remaining well anchored. According to the New York Fed’s Survey of Consumer Expectations, one-year ahead inflation expectations fell to 3.0% in June – returning to its pre-tariff levels (Chart 2). In our view, this supports the Fed remaining on the sidelines until at least September.