In a post on Substack, the founder of Sahm Consulting acknowledged that the risk of recession has certainly risen as demand for labor softens. But she argues this is largely because of lagging effects from an overheated economy, in which an exodus of workers known as the Great Resignation starved businesses of talent.

While rising numbers of Americans actively seeking a job but unable to find one is a necessary prerequisite for a shrinking U.S. economy, Sahm pointed to other indicators that are inconsistent with a broad-based weakening in activity. These include consumer spending as well as, crucially, another labor market data point: nonfarm payrolls. 

“A recession is not imminent, even though the Sahm Rule is close to triggering,” she wrote on Friday. 

Named after the economist herself, this rule signals the likely start of a recession once the unemployment rate’s current three-month moving average (which smooths out noisy volatility) exceeds the lowest three-month moving average of the trailing 12 months by half a percentage point or more. That reading is currently 0.43%, according to Fed data.

Even if the Sahm Rule is already flashing yellow, she believes there are extenuating circumstances—namely the upward pressure on the U.S. labor market exerted by rising numbers of immigrants that is artificially inflating the official unemployment rate. This effect distorts the data enough to risk drawing the wrong conclusions, in her view. Moreover, official revisions to past data can always end up blunting the initial reading after the fact.

Markets on the lookout for a September rate cut

“The Sahm Rule is likely overstating the labor market’s weakening due to unusual shifts in labor supply caused by the pandemic and immigration,” she wrote.

Typically when the U.S. Bureau of Labor Statistics publishes jobs numbers on the first Friday of every month, markets tend to zero in on the hard data of jobs created or cut by employers—the nonfarm payrolls—as opposed to the household survey that forms the basis of the official unemployment rate.

The state of the U.S. economy is front and center this week as the Fed’s policymaking body, the Federal Open Market Committee (FOMC), is scheduled to meet for two days with a press briefing scheduled for Wednesday. 

Few economists are expecting—much less calling for—a cut in the benchmark rate banks charge to lend and borrow overnight among one another. 

Most however anticipate it will begin preparing markets for one in September, marking the starting shot of its first easing cycle going back five years to the day.

Inflation stickier than anticipated

In June, policymakers surprised CEOs and investors by revising the number of rate cuts this year from three predicted in March to just one. The Fed’s latest quarterly projections also now foresee slightly higher levels of inflation than they did previously, as pricing pressure proves stickier.

The Fed has been taking a cautious stance, refusing to declare victory over inflation in the fear premature easing could reignite pricing pressure and risk its credibility. Fed Chair Jay Powell famously told investors in 2021 that inflation was merely transitory, a prediction that proved dead wrong. 

Sahm argued last week the Fed should have already begun lowering rates as inflation has tempered sufficiently to allow for an easing of policy from its current restrictive levels. 

While the Sahm Rule is signaling caution ahead, it alone is not enough evidence upon which to predict the economy is about to shift into reverse. The distortions “magnifying the increase in the unemployment rate” caused by immigration and the lasting aftershocks from the pandemic inject too much noise in the data.

“A recession is not imminent, but the risks of a recession have risen,” she concluded.