Highlights:
If you enjoy a good mystery, you’ll appreciate the U.S. economy.
How has the U.S. economy stayed so resilient despite numerous challenges? A major factor is the consumer. Consumer spending accounts for almost 70 percent of GDP, and even amid turmoil, consumers have continued to spend.
What explains the strength of investment in these tough conditions? It isn’t just data centers. Numerous executives say they have accepted high uncertainty as the new normal and feel they cannot postpone action.
Why does unemployment remain low despite bleak headlines? Beyond the persistent low‑hire, low‑fire climate, the low rate also reflects a subtle equilibrium: the slowdown in labor demand is matched by a slowdown in labor supply growth.
The question about inflation isn’t whether it will return to our 2 percent goal. The FOMC has affirmed its commitment and says it possesses the necessary tools.
Thank you for the warm introduction and for having me today. I hope you’ve enjoyed a pleasant summer—whether by spending time with family, marking our 250th anniversary, watching the World Cup, or simply staying cool with air conditioning. I spent my own summer at the South Carolina beach with my family, which to me means kids, the ocean, and a good mystery‑filled book.
If you enjoy a good mystery, you’ll find the U.S. economy intriguing. Today I’ll discuss four of its mysteries and outline my current conclusions, hoping Sherlock Holmes wouldn’t deem them elementary. I welcome your input, so let me know if I’ve missed any clues. As always, these views are solely my own and not those of any other FOMC member or the Federal Reserve System.
Mystery #1: The Resilient Economy
I’ll begin with the first puzzle: the economy’s extraordinary resilience. It has weathered numerous setbacks in recent years—including the pandemic, supply‑chain shortages, inflation, rising increase exceeds 50 percent. Earnings forecasts for the next quarter continue to be revised upward, and corporate leverage has fallen from its 2020 peak.
Underlying this financial strength is a reported rise in productivity growth. While AI receives much attention, I believe most of the productivity gains to date stem from the post‑pandemic labor‑supply squeeze, which prompted firms to invest in automation, new staffing models, and leaner operations. Those investments are now paying off.
Mystery #3: The Steady Labor Market
That brings us to the third puzzle: the condition of the labor market.
If you follow the news, you’ll encounter story after story about AI displacing workers. You may also be aware of recent college graduates struggling to secure jobs. The latest jobs report even showed a loss of 23,000 positions, yet the unemployment rate remains low and is trending downward.
How can unemployment be so low when the news feels so bad?
It’s true that hiring has slowed, with the hiring rate hovering around 2013 levels. In the CFO Survey—conducted with the Atlanta Fed and Duke University—only 37 percent of firms are hiring for new roles and fewer than 60 percent are filling replacements. Unlike investment, firms remain cautious about hiring due to heightened uncertainty, opting instead to keep headcount flat or reduce it through attrition. AI is relevant, as companies are testing whether it can help achieve objectives without additional hires.
At the same time, firms are not conducting mass layoffs. The CFO Survey indicates fewer than 6 percent of companies reported layoffs. Demand stays solid, requiring staff to meet it. Excess labor has been trimmed over years through attrition, leaving less to cut. While there is concern about AI‑driven layoffs, most AI applications have not yet shown a clear path to reducing headcount, aside from certain programmer and customer‑service roles. Moreover, earnings remain robust; no one enjoys layoffs, and strong profits reduce the pressure to cut staff.
Beyond the ongoing low‑hire, low‑fire environment, the low unemployment rate also reflects a delicate balance: the slowdown in labor demand growth has been matched by a slowdown in labor supply growth. Annual net migration to the United States has collapsed, projected to decline by 2.4 million between 2024 and 2026. Simultaneously, the population is aging. The share of people aged 65 and older now exceeds 20 percent, and as baby boomers retire, the number of non‑participants in the labor force has risen by nearly 2 million per year over the past three years. Consequently, while fewer jobs are being added, fewer workers are seeking them.
Mystery #4: Stubborn Inflation
The fourth puzzle concerns inflation. The personal consumption expenditures (PCE) index peaked at 7.2 percent in June 2022. The Fed responded by raising rates, and by early last year inflation had fallen to the mid‑to‑low 2 percent range, appearing to head back toward target. Then, as you know, tariffs, an oil price shock, and a surge in AI spending arrived, pushing inflation upward again. June’s headline PCE inflation was 3.7 percent, with core PCE at 3.3 percent.
The inflation question isn’t whether it will return to our 2 percent goal—the FOMC has affirmed its commitment and its toolkit. The real issue is the path to get there. Will the Fed need to raise rates further, or is inflation already on a trajectory toward the target?
One argument holds that today’s elevated inflation is already moving in the right direction. Much of the current price pressure stems from temporary shocks that should dissipate. Tariff levels are expected to stabilize, the Middle‑East conflict may resolve, and the data‑center boom should moderate. AI‑driven productivity could lower costs and prices. Wage pressure remains modest, market‑based inflation expectations stay steady, and many believe the current interest‑rate stance remains sufficiently restrictive to bring inflation down.
A counterpoint suggests that today’s higher inflation is more entrenched. Supply‑chain disruptions could linger, and AI could become inflationary if its investment wave continues and is used to raise prices. Prolonged high inflation risks shifting price expectations upward for firms and consumers. If this view holds, additional measures may be needed to bring inflation fully back to target.
Such assistance could arise from demand. Many B2C firms report limited ability to pass on costs because their customers are highly
