Fed Watch – 8/1/2025

The below transcript is a literal translation of the podcast audio that has been machine generated by Notta.

Hi, I’m Lauren Saidel-Baker, and welcome to this August 1st edition of ITR Economics FedWatch.

It’s been a big week for Fed watchers and for economic data as a whole. In addition to jobs today, I really want to focus on the data that came out Wednesday. The big one was that headline GDP number, the advance estimate for second quarter US GDP. And some good news here, GDP did in fact grow. This was largely what we had been expecting here at ITR. In fact, our forecast accuracy rate for that second quarter GDP result was 99.96%. So everything that you have been hearing on FedWatch, on Trends Talk, on our other blogs and outlooks, that all does still hold up. We see no reason to change the outlook at this juncture.

Now, it’s interesting if we dive a little deeper behind that headline GDP growth number. A lot of it was, as expected, driven by the non-repeating nature of the import surge that we saw during the first quarter. All of those imports to get ahead of tariffs, counted negatively in the first quarter number, made a slightly easier comparison for second quarter, where we just didn’t see the same effect. But looking a little bit deeper, we did see some positive growth to consumer spending. At the end of the day, consumer spending makes up two thirds of GDP. And the fact that that level of spending is still increasing, in addition to all of these other measures of the US consumer that we’ve been following, it shows that we’re not in a very precarious position. We don’t see the bottom falling out under the US consumer.

Now, that point brings me to the other big news out of Wednesday, which was that the Federal Reserve did, in fact, hold interest rates steady at their July meeting. However, a little bit of fireworks, or at least as much as we can consider fireworks out of any Fed meeting minutes, but there were two dissenters, both Governor Waller and Vice Chair Bowman voted in fact to lower interest rates by 25 basis points. The argument here seems to be that the cracks in the consumer, they’re not forming yet, but we’re starting to see those hints that there could be potential softening in the labor market. Really the motivation to cut rates would be to shore up labor market conditions to keep them from deteriorating. But the FOMC as a whole did in fact vote to keep rates steady at this level. And that’s showing much more attention to the inflation of their dual mandate than it is to the employment side.

Now inflation is something that we’ve been warning about at ITR. Again, recent data have been coming in largely as expected in the fact that inflation’s looking to pick up by the second half of this year. I wanna be absolutely clear, in the press conference and in other headlines, tariffs are getting a lot of blame for that inflation component. Our best analysis shows though that tariffs don’t typically flow through the economic mechanism. We won’t see the full extent of tariffs revealing themselves in the data until probably between nine and 18 months after those tariffs went into effect. So today’s inflation data probably not being driven by that tariff impact. Instead, we have many other fundamental factors, many of which we’ve talked about before on this show that are starting to show those pricing pressures coming back into the US economy.

So what does that mean for the Fed? Well, despite the headlines, despite the almost reality TV show nature of a divided Fed of these two camps emerging between holding rates steady and maybe some political pressures adding to the argument to lower rates, we can take that narrative really offline. At the end of the day, what matters is this data. It is that dual mandate between inflation and employment. At this juncture, we at ITR certainly agree with the majority of Fed members that inflation seems to be the sign of the dual mandate to watch. If those pressures do in fact pick up as we expect in the second half of this year, that’s really going to be limiting in terms of how deep into this year the Fed can cut and how many cuts we might ultimately see.

So we’re not saying no cuts. Again, it’s not our base case, but we could see 25 basis points in September, maybe even 50 basis points of cuts in the second half of this year. If that is enough for your business, I would say be prepared for the eventual outcome. But at the end of the day, most individuals and most businesses just aren’t going to see, even 50 basis points of rate cuts really move the needle on their defined outcomes. So if you’re looking to buy a home and you’re waiting to time that exact low of the mortgage rate cycle, or if you’re a business looking to do some investment, buy some maybe new machinery, make a major investment in your business that would in fact be debt financed, I know it’s very tempting to want to time the cycle, but that’s a dangerous game to play because it’s hard to time that exact low. And ultimately, we have to take a step back and say, for the sake of 25, even 50 basis points, will that really move the needle on this opportunity? Is this house that I’m looking at purchasing not the right house for me at a 50 basis point higher rate, is that machinery investment really not going to pay off if it’s only a mere 25 basis point difference?

Ultimately, many of these decisions, they depend on factors that are much broader and much more fundamental to business realities. So don’t play the games of trying to time the cycle again, we can play the who’s where on the nope, that’s not it. This is about as low as we expect rates to go this cycle. I certainly can’t make the case for significant additional cuts. And when we look to other leading indicators, other same messaging out of the bond market, inflation does seem to be on most folks minds these days.

Until then though, no change to our ITR outlook, stick with us as we move through the summer. There will be two months of data, both labor and inflation metrics coming out before that next Fed meeting in September. So we should have a little bit more clarity by that point. And until that, we’ll be unpacking the analysis here on ITR Economics Fed Watch. Thank you so much for joining us. We’ll see you next week.