An unsettling mix of rising consumer prices and surging layoffs is amplifying fears of stagflation right at the end of the third quarter, putting the Federal Reserve in an increasingly untenable position as it weighs a rate cut next week.
August’s Consumer Price Index rose 2.9% year-over-year, the highest since January and right in line with estimates, but what came from the labor market was a dire surprise.
Initial jobless claims for the week ending Sept. 6 soared to 263,000 — their highest level since October 2021 and well above the 235,000 expected. Combined with August's stagnant job creation, the data show the U.S. labor market is now under real strain.
See Also: Goldman Sachs Says August CPI Inflation Is Heating Up: Tariffs, Travel, Used Cars Behind The Surge
The Fed Is In A Difficult Position
Thursday's data reinforces the idea that the Fed is being pulled in opposing directions, according to Ryan Sweet, chief U.S. economist at Oxford Economics.
Inflation is creeping higher and the labor market data is showing cracks — but neither development is likely to derail a 25-basis-point cut at next week's meeting.
"The Federal Reserve is in a difficult situation," Sweet said, as headline inflation rose more than anticipated, and jobless claims surged well past expectations.
"Inflation is only one piece of the puzzle to gauge the Fed's path forward," he said.
Nancy Vanden Houten, economist at Oxford Economics, said the recent spike in claims — particularly from Texas — could reflect regional or seasonal distortions. Still, she acknowledged a broader trend: "Initial claims have trended higher over the last several weeks, hinting at a pickup in layoffs."
"The main market mover this morning is jobless claims," economist Mohamed El-Erian said on X. "Inflation may still sit above the Fed's target, but the greater risk lies in the pace and severity of labor market weakening."
"Tariffs are creeping into the data," said Nathaniel Casey, investment strategist at Evelyn Partners. He pointed to a 0.5% monthly surge in apparel prices — the steepest rise since February — as evidence that imported goods are getting more expensive.
Jim Bianco, president at Bianco Research, cautioned that Labor Day may have distorted the data, as claims typically spike around holidays.
He added that the Bureau of Labor Statistics has acknowledged difficulties with seasonal adjustments during holiday weeks, and a shortened four-day work schedule often distorts the numbers.
Fed Decision: Rate Cut A Done Deal, But Then What?
The Federal Reserve, whose dual mandate is to maintain price stability and full employment, faces opposing signals.
Inflation remains too high, yet weakening labor data strengthens the case for easing. Markets widely expect a 25-basis-point cut next week, which would lower the federal funds rate to 4.00%–4.25%.
Traders are also pricing in a 92% chance of another cut at the Oct. 29 meeting and an 85% chance of a third in December.
Wall Street Is Cheering
Stocks are rallying to fresh records amid expectations for lower interest rates, with the S&P 500 — tracked by the Vanguard S&P 500 ETF (NYSE:VOO) — climbing 0.7% to 6,575 points during Thursday’s morning trading in New York.
The Dow Jones Industrial Average smashed through the 46,000 mark for the first time, while the Nasdaq 100 surged to 23,982, also setting a new high.
Investors appear to be betting that rate cuts will cushion the slowdown, fueling optimism for risk assets even as economic data flash stagflationary signals.
For now, Wall Street is cheering, but the rally rests on a fragile balance between cooling inflation and a labor market that may be softening faster than the Fed expected.
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