Powell warns of "systematic overestimation" of employment data, dovish path may continue until 2026.

In the dilemma between the Federal Reserve's fight against inflation and limiting unemployment, the latter gained the upper hand in Wednesday's meeting. If the weakness in the labor market becomes more apparent through a significant overestimation in employment data, this side may still have the advantage entering 2026. In the short term, concerns about the employment situation prompted the Federal Open Market Committee to vote 9-3 to cut the central bank's key interest rate by 25 basis points. Looking ahead, there are signs that if the labor market continues to weaken, policymakers will be more inclined to further lower interest rates. Federal Reserve Chairman Jerome Powell mentioned multiple times during Wednesday's press conference that job growth has likely been negative in recent months, providing a reason to implement a more accommodative monetary policy. "The trend of gradual cooling in the labor market continues," Powell said. "Surveys of households and businesses both show that both labor supply and demand are declining. So, I think it's fair to say that the labor market is continuing to gradually cool, just a little slower than we expected." The key issue lies with the Bureau of Labor Statistics' monthly estimates on how business openings and closures affect the labor market. This estimation, known as the "birth-death model," speculates on the jobs added due to openings and subtracted due to closures. Powell stated that since April, the model may have overestimated job growth by about 60,000 jobs per month. During this period, job growth averaged just under 40,000 per month, and this level of overestimation would be equivalent to a reduction of about 20,000 jobs per month. Powell urges caution Chairman Powell called this difference a "kind of systemic overestimation," and job growth data is likely to face significant revisions. In September this year, the Bureau of Labor Statistics released a preliminary benchmark estimate showing that job growth was overestimated by 911,000 in the 12 months leading up to March 2025. The final data is scheduled to be released in February next year. "In a world where job creation is negative, I think we need to be very careful about this situation and make sure that our policies do not suppress job creation," Powell said. As the Federal Reserve enters 2026, striking a balance between supporting the labor market and controlling inflation will be central to policy-making. At this week's Federal Reserve meeting, officials had a wide divergence of views on where interest rates should go. According to the "dot plot" reflecting individual expectations, six of the 19 participants at the meeting opposed the rate cut, and seven said they saw no need for further rate cuts next year. On the other hand, some believe that there is at least some room for further easing. This indicates that despite inflation rates remaining above the Federal Reserve's 2% target, policymakers are more concerned about the labor market. However, Powell stated that most of the inflation overshoot comes from Donald Trump's tariff policy, which is expected to diminish over time. Market expects more rate cuts If the view that inflation is receding and the labor market is struggling is maintained, it is expected that the Federal Reserve will lean towards a more accommodative stance, especially with Powell set to step down as chairman in May. "As the most influential members of the Federal Reserve closely monitor the unemployment rate, we believe that as long as labor demand weakens and the unemployment rate rises, conditions for further rate cuts, despite the loud objections of hawks, will be in place," said Natixis economist Christopher Hoch in a report. "Since we expect the unemployment rate to continue rising in the first quarter of 2026, we believe the Federal Reserve will continue to cut rates to curb further weakness in the labor market," Hoch added, noting "we see a high possibility of rate cuts in January." Despite the market feeling that the Federal Reserve's meeting rhetoric was not as hawkish as feared, stocks rebounded on Wednesday and Thursday. Nevertheless, pricing in the futures market indicates that the next rate cut will not happen until at least April next year. According to the Chicago Mercantile Exchange Group's FedWatch tool, traders are also betting that there will be two rate cuts in 2026 (more aggressive than the dot plot's one prediction), with a 41% chance of three rate cut actions.