Speech by Governor Waller on the economic outlook

Federal Reserve Governor Christopher Waller strongly advocates for a 25 basis point rate cut at the upcoming September FOMC meeting, arguing that the labor market is significantly weaker than headline data suggest, with underlying inflation near the 2% target once temporary tariff impacts are excluded. He points to substantial downward revisions in job growth, declining labor demand indicators, and business hiring freezes, asserting that current monetary policy is restrictive and proactive easing is crucial to prevent further economic deterioration and avoid falling behind the curve.

Analysis

Federal Reserve Governor Christopher J. Waller presented a resolutely dovish case for an immediate 25 basis point rate cut, arguing that monetary policy is currently restrictive and risks to the labor market are increasing. His analysis deconstructs recent economic data to reveal significant underlying weakness, asserting that the headline unemployment rate of 4.2% is masking a sharp decline in labor demand. Waller highlights that downward revisions to May and June payrolls, combined with a soft July report, have brought the three-month average for job growth to just 35,000. He further projects that upcoming annual benchmark revisions will show monthly job creation was overstated by approximately 60,000, implying employment actually contracted over the past three months. This view is supported by secondary indicators such as lower wage growth for job-switchers, a falling quits rate, and rising unemployment for cyclically sensitive groups. On inflation, Waller contends that policy should look through the temporary impact of import tariffs, which he believes have elevated recent PCE readings (2.6% headline, 2.9% core). He states that Fed staff models show underlying inflation remains close to the 2% target. With economic activity having slowed to 1.2% growth in the first half of 2025 and business contacts reporting hiring freezes due to tariff and AI uncertainty, Waller concludes that a proactive rate cut is necessary to preempt a more severe downturn, moving the policy rate closer to the estimated 3% neutral level from its current 4.25%-4.50% range.

Key Decisions for Investors

• Investors should increase the probability assigned to a 25 basis point rate cut at the September FOMC meeting and anticipate a series of cuts over the next three to six months, as Waller's speech provides a clear and data-driven justification for a dovish pivot.
• Portfolio positioning should be reviewed with a bias towards assets that perform well in a slowing growth, falling rate environment, such as fixed income, while exercising caution with cyclical sectors sensitive to weakening labor markets and capital investment freezes.
• Pay close attention to revisions in monthly employment reports and supplementary labor indicators like the quits rate, as influential policymakers are heavily discounting initial headline numbers and focusing on these deeper trends to guide policy.
• Monitor developments in U.S. trade policy and the business response to AI integration, as Waller explicitly identified these as primary sources of uncertainty weighing on hiring and investment decisions.