Recent data suggest economic fundamentals remain relatively solid
Consumers are not slowing down on spending amid solid income growth according to September reports
The range of FOMC participant opinions of the neutral policy rate are historically wide, with some feeling that the current rate is only mildly restrictive
The economic data released in September painted a picture of an economy on firmer footing than many expected amid the noisy headlines of 2025. The third estimate of Q2 GDP was revised higher to 3.8% q/q (annualized), the highest reading since Q4 2021. While that headline figure was clearly impacted by a rebound of trade-related metrics from Q1, there were also upward revisions to consumer spending and business investment. If excluding the impact of trade (including inventories), final sales to domestic purchasers were revised up to 2.4% from an initial estimate of just 1.1%. This metric is sometimes referred to as “core GDP,” and while still below the 3.35% average for 2023-2024, it shows no signs of imminent recession.
August personal income and spending data also revealed no signs of a softening consumer balance sheet. Real disposable income (ex-taxes/inflation) rose 0.1% in August and is on pace for a 1.9% increase in 2025 compared to 2.1% in 2024. Spending also outpaced expectations on both a nominal and inflation-adjusted basis. Real consumer spending was negative for the first two months of the year amid heightened uncertainty before bouncing back. After adjusting for inflation, spending has averaged 0.37% growth over the last 3 months, or 1.47% annualized. The personal savings rate (income – spending) rose from 4.3% to 5.7% in the first four months of 2025 and has since fallen to 4.6% through August. While sentiment surveys have been relatively weak in 2025, with many respondents pointing to tariffs as a primary worry, it hasn’t yet been enough for consumers to slam the brakes on spending.
There has also been heightened focus on the labor market over the last several months, flagged by Fed doves as the primary motivator for multiple rate cuts. Nonfarm payroll data has shown a clear slowing in job growth, particularly following the sharp downward revisions to March and April. At the same time, there is no clear evidence of increased firings. Not unlike 2024, initial jobless claims initially surged in early summer, only to fall back into the 220,000 – 230,000 range since mid-June. There was a brief surge to 264,000 claims for the week ended September 5, but it appears now to have been driven by fraudulent claims in Texas and general noise during a holiday-shortened week (Labor Day). By the week ended September 20, initial claims had fallen back down to 218,000. The number of people continuing to claim unemployment benefits remains elevated but has come down from the summer peak. The labor market picture remains largely the same – companies are slow to hire and slow to fire.
The Fed, Inflation, & Jobs
The Fed moved forward with its first rate cut of 2025, lowering the fed funds target range by 25 basis points (bps) on September 17. There was one dissenting vote from the newest Fed Governor Stephen Miran. President Trump’s former chief economic advisor unsurprisingly lobbied for a larger 50-bps cut, and he later said that his preference would be to have three consecutive 50-bps cuts to end the year to get the fed funds rate closer to what he considers the neutral level (~200 bps below the current rate). A neutral policy rate is the level that is neither stimulative nor restrictive to economic growth. Knowing this rate in real time is the economic equivalent of finding a unicorn, but nevertheless it is something that Fed policymakers and economists alike pay close attention to.
Based on the most recent Summary of Economic Projections, as well as public comments, all FOMC participants feel that the current policy rate is in restrictive territory. However, there is a wide range of opinions on just how restrictive it is. Exhibit 1 provides a breakdown of each of the 19 participants’ expectations for the long run fed funds rate, effectively their opinion of the neutral rate. The median forecast was 3%, or a little more than 100 bps below the current level. However, nine of the participants feel the neutral rate is higher, including one who feels we’re already close to neutral. Others are more worried about downside risks in the labor market and feel many more rate cuts will be necessary to balance risks to jobs and inflation.
Exhibit 1
Source: Federal Reserve, ALM First
Perhaps more important to this discussion, the bond market is pricing the neutral rate closer to the Fed’s median forecast of 3%. If inflation proves stickier and Fed rate cuts are less than currently expected, the entire term structure of rates must reprice accordingly (higher), likely sparking a fresh wave of volatility in rates and equity markets alike. However, the current political dynamics are more complex, and the White House’s push to stack the Board of Governors with those more in line with Miran’s view could create even more uncertainty over the next year.
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