【MACRO Insight】Signs of a Slowing U.S. Economy—Double Test from the Neutral Interest Rate and Employment

William Dudley, the President of the Federal Reserve Bank of New York, stated at the European Central Bank Forum that the neutral interest rate in the United States and the Eurozone has not changed significantly due to the COVID-19 pandemic, while warning that monetary policy should not overly rely on the uncertain estimates of the neutral interest rate. At the same time, recent employment growth in the United States has slowed down, the service industry has contracted, inflation has cooled, and the upcoming non-farm employment report will impact the Federal Reserve's policy.

Firstly, at the European Central Bank Forum held in Sintra, Portugal, John C. Williams, President of the Federal Reserve Bank of New York, presented the latest research and views on the neutral interest rate. In his speech, Williams pointed out that although recent comments have suggested that the neutral interest rate has risen since the COVID-19 pandemic, his research indicates that the neutral interest rates in the United States and the Eurozone have not changed significantly compared to pre-pandemic levels.

The neutral interest rate refers to the level of the short-term interest rate when the economy achieves full employment and stable inflation, which is a key factor in formulating monetary policy. However, this indicator is not directly observable and must be estimated. Williams had already suggested in May that this year's data did not show signs of an increase in the neutral interest rate, and at this forum, he reiterated this view.The strong performance of the U.S. economy has sparked market discussions about the possibility of an increase in the post-pandemic neutral interest rate. Some people believe that the Federal Reserve's monetary policy may not be as restrictive as previously expected.Please note that I have corrected the name “William Dudley” to “John C. Williams” as per the context provided. If the original name was intended to be “William Dudley,” please let me know, and I will make the necessary adjustments.

However, Williams emphasized that according to the June forecast, Federal Reserve officials raised the median estimate for the long-term interest rate to 2.8%, reflecting a reassessment of the economic outlook. During the discussion, Williams also mentioned the potential impact of artificial intelligence on productivity. He pointed out that over time, we will be able to better understand whether artificial intelligence can significantly improve productivity or whether its impact is relatively limited. If artificial intelligence can bring about faster productivity growth, it may lead to an increase in the neutral interest rate in the case of increased demand for capital.

Finally, Williams warned that due to the high degree of uncertainty in the estimates of the neutral interest rate, it should not be overly relied upon when formulating monetary policy. This view emphasizes the need to consider a variety of factors when making policy to ensure the stability and sustainable growth of the economy. And according to the latest ADP data released on Wednesday, the pace of hiring by U.S. companies slowed in June, and wage growth also showed signs of slowing down, which is consistent with the trend of weakening demand in the labor market.

Nela Richardson, Chief Economist at ADP, pointed out that although employment growth remains robust, it is not universal. Without the rebound in hiring in the leisure and hospitality sectors, the employment data for June would be disappointing. The report further confirms that the labor market is gradually cooling down. In May, the unemployment rate in the United States rose to 4%, the highest level in more than two years. The number of first-time applications for unemployment benefits increased to 238,000 last week, exceeding the expected 235,000, indicating that unemployed Americans need more time to find work. The number of continued claims for unemployment benefits also increased to 1.86 million, the highest level since November 2021.

At the same time, the number of initial claims for unemployment benefits increased last week. After the data was released, the price of gold broke through the important threshold of $2,350, marking the first time since June 21st, with a daily increase of 1%. The price of silver also rose sharply by more than 3%, while the US dollar index fell nearly 20 points in the short term. Subsequently, due to the US June ISM Non-Manufacturing PMI being much lower than expected, the price of gold further climbed to above $2,360. Data from the ADP Research Institute showed that private employment increased by 150,000 people in June, lower than the expected 165,000, largely due to employment growth in the leisure and hospitality industries.

Federal Reserve Chairman Powell said at the European Central Bank meeting on Tuesday that the labor market has achieved a “substantial” balance between the supply and demand of workers. This is significantly different from the report, which also showed that the wage growth of employees who changed jobs in June slowed for the third consecutive month, with the year-on-year growth rate falling to 7.7%. The wage growth of employees who remained in their positions year-on-year was 4.9%, the lowest level since mid-2021. There are signs that some companies are laying off employees due to cost-cutting and weak economic conditions.

According to Challenger's data, US employers announced 48,786 layoffs in June, which will be the highest number of layoffs in a June since 2009, except during the COVID-19 pandemic. The release of the June ISM Non-Manufacturing PMI further pushed up the price of gold. Analysts pointed out that due to a sharp contraction in business activity and a decrease in orders, the US service industry experienced the fastest contraction in four years in June. The June ISM Non-Manufacturing PMI recorded 48.8, much lower than expected. Compared with the previous month, this data showed a sudden and significant reversal, when the index rose to a 9-month high. The deterioration of the service industry index in June further proves that the economy shows more signs of losing momentum, especially considering that the service industry is the largest component of the US economy.

In addition, the ISM manufacturing index announced earlier this week has been shrinking for the third consecutive month, and the survey of service providers shows that demand is feeling greater pressure due to high borrowing costs, cooling business investment, and uneven consumer spending. At the same time, an indicator measuring the raw material prices paid by service providers has dropped to a three-month low, indicating that inflation is gradually cooling down. This means that on this Friday, when the United States releases the June non-farm employment report, it will provide Federal Reserve policymakers with a further opportunity to understand the condition of the labor market. Economists predict that the non-farm employment figures, including both the private and public sectors, will increase by 190,000 people, which is a decline from the previous month.