Although the Federal Reserve took no formal action at its July 30 meeting, this meeting was filled with intrigue. The market expected Fed Chair Jerome Powell to hint at a rate cut in September, but the Chair instead emphasized uncertainty. The job market is showing some signs of slowing, but inflation is probably also on the rise. Meanwhile, President Donald Trump has dialed up the political pressure on Powell, including reportedly drafting a letter firing the Fed Chair. Here are our thoughts on how the Fed will navigate all of this uncertainty, and how it will impact markets.
Fed considering cutting rates, just not quite yet
Although job growth has been solidly positive all of 2025, there are a number of signs that the labor market is weakening. Job growth has averaged 130,000 per month so far this year. That’s down from 168,000 in 2024 and 216,000 in 2023. Specifically in the month of June, half of all payroll gains came from state and local public education. Private job growth was only 74,000 for the month. This may better reflect labor demand from businesses.
There are also signs of softness in the Household Survey. When you hear about the “payroll” report, that is a survey of firms, where the Labor Department asks companies how many employees they had on the payroll that week. There is a separate survey where individuals are asked if they currently have a job. Based on that survey, the total number of employed people has slightly declined since January. To be fair, the Household Survey is notoriously volatile, which is why economists tend to focus more on the payroll figures. However, it is worrisome that the Household-based data has shown such persistent weakness.
Source: Department of Labor Statistics
Fed Governor Christopher Waller said in a recent Bloomberg interview that he was worried that job growth could be close to a “stall speed.” Waller wound up dissenting at this meeting, preferring to have cut rates. He argued in the interview that if job growth really is stalling the Fed should do what it can to revive growth now before it is too late. We have talked a lot about the idea of stall speed in past articles. The chart below shows that job growth has never sustained below approximately 1% without going negative. In other words, it looks like there is a “stall speed” around 1% job growth. The current percentage growth rate is 0.99% over the last six months.
Source: Department of Labor Statistics
Another Trump-appointed Fed governor, Michelle Bowman also dissented. She had made similar arguments to Waller in a recent speech. It was the first time two Fed Governors had dissented in over 20 years.
During the press conference Powell was asked a few questions about labor market concerns, including specifically about the two dissents. The Chair acknowledged that these concerns were valid, saying there were “downside risks” to the labor market. But he also said that right now “it seems to me, and almost the whole committee that the economy is not performing as though restrictive policy is holding it back inappropriately.” That quote seems calibrated to push back against both the dissents as well as other outside pressure.
Inflation making Fed job tricky
That being said, I think in a different set of circumstances, the Fed probably would have cut rates this month. The problem is inflation.
Right now the inflation data is difficult to interpret. Most economists expect consumer prices to rise in the coming months due to tariffs, but so far inflation has been fairly tame. The Consumer Price Index (CPI) did accelerate slightly in June. Core CPI rose 2.9% over the last year, up from 2.8% last month. However even at 2.9%, inflation is running lower than it was in January and February of just this year.
That being said, Powell reminded us during the press conference that inflation is still above the Fed’s target, even after adjusting for the estimated impact of inflation. He said, “You could argue we are a bit looking through goods inflation by not raising rates. We haven’t reacted to new inflation” (emphasis mine). Here Powell is saying that the current level of inflation might justify a rate hike if not for the presumption that tariffs were likely to be a “one-time” impact.
The market reacted strongly to this statement and others indicating that Powell wasn’t yet committed to a September rate cut. Stocks fell modestly, but more notably the dollar surged and Treasury bond yields rose. I still view a September rate cut as the most likely outcome however. Over Powell’s long tenure as Fed Chair, he has often focused more on justifying the Fed’s current stance as opposed to giving future guidance. I also think the Chair is loath to create definitive market expectations for September given the level of economic uncertainty.
It may also be an attempt by Powell to emphasize the Fed’s independence. By refusing to commit to any future move, Powell is effectively pushing back on political pressure to cut. Between now and the September meeting, there will be two jobs reports and two inflation reports. It may be that this data makes the Fed’s September decision obvious, thus diminishing any sense that the Fed caved to White House pressure.
Could Trump fire Powell?
Speaking of pressure from the White House, questions about the Fed’s independence hung over this meeting. The Chair was asked multiple questions during the press conference related to Trump’s pressure campaign. Powell responded as he always has, say he’s focused on “our public mission”
Based on reporting from the Wall Street Journal and others, Trump apparently was convinced by Treasury Secretary Scott Bessent that firing Powell wouldn’t accomplish what the President wanted. The firing would be challenged in court. The Supreme Court recently ruled that the Fed Chair could not be removed at will, which would make the case difficult for the White House. A lengthy court process would probably prevent whoever Trump wanted to appoint actually taking over as Chair. The court case could take long enough that Powell remains Chair until his term naturally ends in May anyway. Or it might mean that Fed Vice Chair Philip Jefferson winds up taking over on an interim basis. As Jefferson was appointed by former President Joe Biden, it seems unlikely Trump would prefer Jefferson to Powell.
As we said above, it is also probably the case that the Fed starts cutting rates anyway very soon. It may very well be that Powell’s Fed doesn’t actually act any differently than what a Trump-appointed Chair would do.
It is understandable why President Trump wants interest rates lower. Trump campaigned on lowering the cost of living, but actually lowering prices is difficult, especially with tariffs being enacted. However, if mortgage rates were to fall, that could provide some relief. An overwhelming majority of Americans think the cost of housing is a major problem. Lower mortgage rates would help. Plus if some set of current borrowers were able to refinance, that would feel like an improvement in the cost of living for those households.
The problem is that the Fed doesn’t control mortgage rates. As we said in a prior video, the Fed only controls overnight bank lending rates. Mortgage rates are most influenced by longer-term Treasury bond yields. The Fed has some influence over these yields, but it is limited. The main way the Fed can help keep longer-term rates low is to keep inflation low, and further make sure the public expects inflation to stay low over the long-term.
This is where interfering with the Fed could result in the opposite of what President Trump wants. If the public begins to believe the Fed is cutting rates for political reasons, it could erode confidence that inflation will stay low longer-term. The Fed keeping rates too low was one reason why inflation got out of control in the 1970’s. Many believe the Fed’s decisions were politically motivated at that time. Hence it could happen that the Fed cuts short-term rates, but because the market believes rate cuts will ultimately turn inflationary, longer-term rates rise.
It is impossible to know where this story goes next. Trump recently visited the Fed to tour how a large renovation was going. It had seemed that the Administration might try to use cost overruns on the project as justification for firing Powell or forcing a resignation. One Republican member of Congress has even attempted to open a criminal investigation against the Fed Chair. However after the tour, Trump seemed to rule out firing Powell saying “To do that is a big move, and I just don’t think it’s necessary.”
What comes next for the Fed?
We believe the Fed is likely to cut rates 2-3 times over the next few months. Whether they keep cutting depends on the economy. If recent slowing in employment turns into a bigger trend, we could see the Fed get more aggressive with cuts toward the end of the year or the early part of 2026. This is especially true if inflation is no longer rising.
As for longer-term interest rates, we have been underweight longer-term bonds for a while now. It isn’t just the risk of political interference with the Fed, but also deficit worries and concern over inflation. We think this will probably prevent long-term rates (including mortgage rates) from dropping by a large degree, unless the economy does head toward a recession.
Fed rate cuts could be a big benefit to stocks, but only if company earnings growth remains robust. The stock market generally performs well during periods where the economy grows, and poorly when it contracts. Fed rate cuts are only helpful for stocks in so far as the cuts help avoid a recession. Hence for stock investors, you’d rather see more rate cuts than fewer, all else being equal. But that’s a secondary consideration to general economic growth.
