In the latest Bureau of Labor Statistics report, a pair of developments are giving policy
makers pause as to what is really happening in the workforce and whether a future interest
rate hike is as likely as it once seemed. For starters, despite downward revisions to
previous job gains in April and May, the unemployment rate fell slightly, from 4.3% to 4.2%.
However, the report also indicates the number of people available for work is dropping,
speculatively due to an aging population and a decline in the number of immigrants
available for work. The number of people reporting themselves as unemployed dropped by
213,000. Labor force participation dropped by approximately 700,000, or to 61.5% in June,
the lowest since March 2021.
At the same time, the number of people reporting that they had jobs fell by around half
million, reinforcing the drop in labor force participation. Reportedly, about 1.5 million
fewer people were working in June than in January 2025, the start of President Donald
Trump’s second term.
Economists estimated that the economy needed to create between zero and 50,000 jobs
per month to keep up with the working age population. That “break-even” rate has dropped
because the immigration crackdown has, inevitably, reduced the labor force, thus keeping
the unemployment rate down.
Historically, low level layoffs are the key driver of payroll gains. After the uncertainties of
last year’s tariffs and this year’s middle east conflict, companies are showing a reluctance
to let go of workers, especially after struggling to find labor in the post-pandemic economic
recovery.
“The unemployment rate’s decline to 4.2% is a case of good news for the wrong reasons: it
was driven by people leaving the labor force, not by more hiring. This points to a labor
market that’s stubbornly refusing to reaccelerate, despite recent optimism,” said Daniel
Zhao, chief economist of job site Glassdoor.
The challenge for the central bank is to diagnose the jobless rate, indicating tighter job
market conditions, while the decline in labor force shows a discouraging sign for future
growth.
While high inflation remains a priority to the Federal Reserve, the question of whether job
growth can be sustained makes future decisions on interest rates more challenging.
Despite financial markets betting that the Fed will raise borrowing costs soon, uncertainty
about which risks need attention—too much inflation or weaker job growth—may be a
reason to stand pat on any future interest rate decision, according to some Fed insiders.
Also worth remembering is that June, historically, is one of the most volatile months for job
revisions. Last year, after the BLS reported strong job gains in June, the revisions handed
down in the July and August reports ultimately cut 160,000 jobs, resulting in a net loss for
June.
The job gains in April and May were already revised downwardly by 74,000 jobs, making the
potential for June revisions much more troublesome for the job market trend overall.
Last year the Fed debated the impact of new immigration policy on the workforce, and
while new Chairman Kevin Warsh hasn’t focused on the issue, it could figure more
prominently in the U.S. job growth outlook, that being if the pace of job creation is
adequate month to month. The implications for future economic growth depend on both
the number of people working, and their average output.
Warsh noted in comments to a European economic council last Wednesday that a recent
jump in U.S. productivity was coming at a time when the average number of hours worked
had flatlined. Warsh remains optimistic on the overall impact even if the timing remains
uncertain.
“Potential growth looks like it’s trended up,” with productivity on the rise, Warsh said, but
“labor market hours worked are relatively flat.”
“Nothing is in the bank at this time of consequence, but if the last four quarters are an
indication, which is really largely before the advent of the new surge in what artificial
intelligence can do, there’s reason to be optimistic. Does that optimism convey into policy
in the next six or nine months? Still too soon to say.”
The moderation brings payrolls into alignment with other market surveys, including small
businesses hiring plans, which have more modest projections. Traders have priced in a
much slimmer chance of a Fed rate hike this month but
continue to see monetary policy tightening in September as likely, with short-term interest
rate futures reflecting about a 60% chance of an increase, down from 75% chance before
the jobs report.
The central bank left its benchmark rate at 3.50%-3.75% range at its June meeting, but
updated quarterly projections still showed policymakers expected to raise borrowing costs
this year.
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