Less than two months ago, the prevailing sentiment among many economic observers was that the US economy is “booming” and that high interest rates were doing little to restrain growth. A disappointing Q1 GDP print (and subsequent downward revisions) began putting a dent in that overly optimistic assessment and other data have since steadily tilted the evidence in a different direction (Figure1).
The June employment report—showing a further uptick in the unemployment rate to 4.1%—is a powerful piece of evidence for our long-held view that the US economy is, in fact, not quite as strong as generally believed. We have been vocal proponents of the “soft landing” but have also said that once the labor market froth is eliminated, the Fed needs to “nurture” it by lowering rates as inflation improves.
We had long argued that the first step in that calibration process should occur during the summer, if not in June, then in July. Unfortunately, the odds of a summer cut plummeted following the deceivingly strong May employment report (more on that below) and the June FOMC “dot plot” showing a single rate cut this year. And yet, that does not mean that a July rate cut would not be the right policy. We have always emphasized policy lags as a reason to start the rate cutting cycle sooner rather than later, but the latest labor market update suggests a degree of urgency that was not present in the data several months ago.
It is not just that the headline unemployment rate has moved up to the highest level since November 2021. It is the entirety of the data signals that suggest some urgency: the drop in job openings, the lengthening duration of unemployment, the further moderation in wage inflation, the slowdown in real disposable income growth and consumer demand, the steady uptick in credit card delinquencies, the relapse in housing activity, etc.

Some Fed officials have pushed back against accusations of being overly data dependent, as a contradiction in terms. But there is some truth to those accusations: we fear policymakers may fail to see the forest for the trees, i.e., miss the trend behind the individual releases. Monetary policy should respond before the desired slowdown turns into an undesirable recession.
Now let us turn back to the June employment report, which can only be properly analyzed in the context of the May report. Nearly all the things we flagged as questionable in May were “corrected” in June. To begin with, after an unexplained three-month streak of minimal revisions, June brought back the big downward revisions typical of the past year: payroll gains for the prior two months were revised down by 111,000! We had also expressed skepticism about the apparent strength in professional and business services, saying that “at the very least, the behavior of the past year and a half suggest that this robust print will be followed by much softer ones in the next couple of months.” Indeed, this was true in the June update, when this category lost 17k jobs. In fact, the decline in temporary hiring accelerated sharply, suggesting further weakness down the line.
We also raised questions about the strength in government sector hiring. Interestingly, government payrolls gains widened to 70k in June, even as the May gains were revised lower by 18k. We still struggle to find a compelling reason why government hiring should be accelerating at this point in the business cycle but perhaps therein lies the seed of another downward revision in August? Finally, we expressed surprise at the reported 0.5% m/m increase in May average hourly earnings (AHE) for production and non-supervisory employees but recalled the January wage data that was initially very strong and subsequently revised lower. Guess what: the 0.5% was revised lower to 0.4% and was then followed by a reasonable 0.3% gain in the June report.

Wage inflation is, indeed, cooling. Overall AHE inflation cooled to 3.9% y/y, down two tenths from May and marking the twin-lowest reading since June 2021. AHE inflation for production and non-supervisory employees was unchanged at 4.0% following a downward revision to the prior month. Looking at AHE across sectors, there has been a clear downtrend in wage inflation in key service industries, so fears of a wage price spiral appear increasingly disconnected from actual data (Figure 2, page 3).
The rest of the macro data were almost all on the weak side. Initial unemployment claims ticked up incrementally, but the bigger story is the reported rise in continuing claims such that the four-week moving average of continuing claims reached the highest level since late 2021.
Both the manufacturing and non-manufacturing ISM indexes missed expectations, with the latter one massively so. The message here is that while manufacturing activity may be putting in a bottom, services activity is downshifting meaningfully. Again, we are not saying that the only way forward is lower, but rather, that enough of a downshift has already occurred to warrant more caution from policymakers.
The non-manufacturing ISM index lost 5.0 points to a four-year low of 48.8. Unsurprisingly given the magnitude of the move, there was weakness across the components, including in new orders, current activity, and employment. Rather than overplay the June retreat, we would highlight two things. One is that this is the second time in the last three months that the headline has fallen below the neutral fifty level, suggesting that this is more than a “one-off” kind of softness. The second is that the three month average of the index is 50.7; the four-month average is 50.9. Neither are great numbers, and the risks seem to be titled to the downside rather than towards any sustained reacceleration. The silver lining is that price pressures are ebbing: the prices metric eased to a year low of 56.3, which is actually below the 2019 average for this measure.
The manufacturing ISM index bucked expectations for a modest improvement and posted a modest decline instead. Back in March, the index had broken above 50 for the first time since October 2022, which had garnered a lot of enthusiasm at a time as a sign that a manufacturing revival is afoot. Since then, the index has fallen back below 50 with worsening performance in each subsequent release. The best that can be said is that manufacturing is trying to put in a bottom. A true revival is far off and even the bottoming out process may be threatened if the housing soft spot extends much further. After a brief expansion last month, the employment metric fell back into contraction, backlogs shrank at the fastest pace since November, and prices rose at the slowest pace since an outright contraction in December.
Motor vehicle sales cooled much more than expected in June, totaling 15.29 million (seasonally adjusted annualized). Unit sales are up about 1.3% q/q, which should strengthen real goods spending in the Q2 GDP data. However, sales only rose 0.7% y/y in Q2, and level-wise remain tepid. High costs, high borrowing costs, and tougher lending standards all play a role.