The labor market may be softer than expected, but consumption—the heartbeat of the economy—is still healthy.
KEY TAKEAWAYS
Consumption remains the dominant driver of GDP, accounting for nearly 70% of total economic activity. Recent data shows it continues to grow at a healthy pace despite headline GDP weakness.
The recent GDP decline was largely influenced by net export distortions and a temporary reduction in government spending. Core domestic demand remains relatively stable.
Payroll revisions from the BLS suggest weaker job growth than previously reported. However, the labor market deterioration has not yet reached recession-triggering levels.
The Sahm Rule focuses on acceleration in unemployment rather than the absolute level. That threshold has not been breached.
Consumer sentiment indicators are declining and reflect growing concerns about the labor market. Fear of job loss can influence spending before official data confirms weakness.
MY HOT TAKES
The consumer is far more resilient than headline data suggests. Panic over single-quarter GDP prints is often misplaced.
Labor market revisions deserve attention, but they are not yet signaling systemic collapse. Trends matter more than backward-looking snapshots.
Distortions in net exports and government spending should not be confused with organic economic weakness. Investors must separate accounting noise from structural deterioration.
Sentiment may become the leading signal if job fears intensify. Psychology often shifts before payroll data confirms reality.
The Fed should at minimum signal readiness to act if labor weakness accelerates. Communication alone can stabilize expectations before hard data deteriorates.
You can quote me: “We are arguing about last year’s data while markets are pricing next year’s reality.”
Patient in stable condition. There is no stopping the US consumer. Don’t ask why I found myself at a famous old pub in NYC’s Gramercy Park last night as snow pounded the city. I was sure that I was going to be the only person in the place, but alas, it was quite crowded. We even met up with a Corgi puppy who braved the weather for a chance to keep the local economy booming–but more likely hoping for some prime scraps. The biggest worry amongst the patrons–including yours truly–was finishing up before a citywide travel lockdown would prevent even UBERs or Lyfts from getting us home.
Nothing–simply nothing–seems to phase consumers in the US. Regular followers know how obsessed I am with consumption and how I often tie employment to its strength. A few weeks back we learned that the labor market may not have even been as healthy as expected last year when the Bureau of Labor Statistics (BLS) revised a year’s worth of nonfarm payroll adds significantly down. In fact, Claudia Sahm (renowned former Fed economist who created the famous “Sahm Rule”) recently wrote that the BLS revision indicated that the US may have had zero net job growth or even periods of job losses in 2025. A basic economic rule of thumb attributes economic growth to a strong labor market. This makes sense because most of us need income from our jobs to buy stuff. Even if folks lean on their credit cards (and credit data suggests that many are), jobs are still required to keep that up. Sahm goes on to state that despite this low or no growth, the US managed to avoid a recession.
What is going on with that?
Well, before we get any further, we need to have a look at how the economy is actually performing. The most basic measure of economic performance is Gross Domestic Product (GDP). Last Friday we got the first look at fourth quarter GDP from 2025. Yeah, it’s a bit delayed, but it's all we have for the moment. The number showed an unexpected decline in GDP. But like most things these days, there is some noteworthy small print. Have a look at the chart and keep reading.
This is one of my favorite Bloomberg charts–ECAN–which shows the major GDP ingredients’ quarterly growth (the stacked bars). The white line is the headline GDP number which clearly declined from Q3’s 4.4% growth. That is hardly an economy in a recession. A common rule of thumb for recession is two consecutive quarters of GDP decline, and your sharp eye may notice that we did have a one-quarter decline in Q1 of last year, though that didn’t seem to last long. The reality of that decline is a distortion caused by that rust-colored bar–Net Exports–which was the result of a big import ramp-up ahead of the tariffs that would rock markets in March and April. Now, when I say “distortion,” I don’t mean that the outflows were not real. They were, when we import, dollars flow out of the US economy into the coffers of foreign sellers and that outflow decreased domestic product. That ramp up in imports was more an accounting aberration than a pronouncement of economic weakness. To determine that, we need to focus on Consumption and Investment. Those two aggregates cover spending by consumers (you and me) and businesses/investors. I like to focus on consumption because it makes up nearly 70% of GDP. Have a look at the following chart and keep reading.
This chart shows only the consumption portion of GDP. At first glance you probably recognized it as one of those heart monitors connected to a hospitalized patient, and it might as well be, as it truly does represent the heartbeat of the US economy. That blip–a pretty clear anomaly–was the abrupt contraction caused by the pandemic lockdown and spike by the reopening and massive fiscal and monetary stimulus that followed–a shock that would bring the patient back to life. I want to point out two things on this chart. First, let’s start with the most recent reading (all the way to the right) which shows a respectable 2.4% annualized quarterly growth, well within the healthy range of the post-pandemic years. Now, you may notice a bit of a dip in Q1 last year, which did raise some concerns, though it quickly recovered. Second, take a look at 2018 where I drew in those two red arrows. There, one can clearly notice a downward trend in consumption. Now that is not just quarter over quarter gyrating–that was truly a decline in consumption, and the Fed ultimately noticed that, famously pivoting at the close of the year as markets had their worst Q4 since The Great Depression. The bump that followed was the result of the Fed’s rate cutting in 2019 which seemed to get things back on track just in time to be overtaken by the pandemic. The point of this chart is to get you to recognize what an alarming consumption trend looks like and how this most recent one should not yet be the cause of an alarm.
One more thing to note. Looking back to the first chart above ( ☝️🙃 ), you will notice that cyan-colored bar deeply below zero. That represents government spending, and it is negative as a result of the shutdown that occurred late last year. Perhaps–though not likely–it can serve as a reminder to lawmakers that their actions can have real impacts. Those dollars were actually not spent–meaning that there were businesses and real people that received less revenue as a result of the shutdown. As those events can technically be avoided 😕 , the lower headline GDP figure may not be as alarming as it would be if consumption declined.
So, what would actually cause consumption to decline?
That seems like THE question to be answered, doesn’t it? Well, according to Sahm, those employment declines would have to be more severe to cause the unemployment rate to spike. That is in line with her closely-watched Sahm rule, which is triggered when the three-month average unemployment rate rises at least 0.5 percentage points above its low from the previous 12 months–a threshold that has historically coincided with the onset of recession. Ok ok, I am hoping that by now you are as frustrated as I am and have noticed that we are splitting hairs over delayed-release economic numbers that report economic health last year, as in… LAST YEAR. We are already halfway through the first quarter of this year. How are we doing now? And–even more importantly–what will happen in months ahead. After all, stock prices represent future performance. 👀
Let’s take a step back. You would obviously…er, hopefully curb your spending if you lost your job. The Sahm rule is essentially on the lookout for an acceleration of the unemployment rate–she is not as concerned with the actual level as she is with its trend. That makes sense, but it is still just a number, and we have learned that numbers can be really confusing. I want to point out something really simple here. There is something more to those numbers than the actual numbers themselves, and that is the message they transmit. I would posit to you that fear of losing a job could be an even more powerful deterrent to consumption than just about anything–even a pending blizzard. ❄️ That is precisely why I like to watch sentiment indicators carefully. Now, I am well-aware that there are lots of criticisms of those numbers. They are based on polling and subsequently biased. Further, there is not a statistically strong causal relationship between sentiment and GDP. However, one cannot avoid noting a declining trend in consumer sentiment. And when you look at recent causes of those declines, you can see that they are related to perceptions about the labor market. Check out the chart of both University of Michigan Sentiment and Conference Board Consumer Confidence, below. You shouldn’t have to squint too hard to recognize their declining trends.
For now, the patient is in stable condition. Consumption remains strong, but the labor market is sending signals that should not be ignored. The Fed too is sending signals that should not be ignored. Right now, might be a good time for the Fed to signal that it is monitoring the situation closely and that it is ready to support the weakening labor market, at the very minimum. It has not yet done so–at least not recently. Visiting hours are between 9:30 AM and 4:00 PM Wall Street Time.
FRIDAY’S MARKETS
Stocks traded higher on Friday after a Supreme Court Ruling shot down the Administration's current tariffs. The ruling simply opened the door to more confusion about tariffs which are not likely to go away but rather morph into another type of tariff. The administration quickly imposed a 10% across-the-board tariff in response to the ruling and already jacked those up to 15% WHILE YOU CHILLED over the weekend. 10-year yields rose slightly while Gold and Bitcoin gained ground.
NEXT UP
Factory Orders (December) may have slipped by -0.6% after gaining 2.7% in November.
Durable Goods Orders (December) are expected to have slipped by -1.4% in line with prior estimates.
Fed Governor Christopher Waller will speak today.
Later this week we will get more housing numbers, more regional Fed indicators, Consumer Confidence, and Producer Price Index / PPI as well as some very important earnings releases. Download the attached calendar to go along with your heart-healthy diet–your body will thank you.
Important earnings today: Dominion Energy, Beyond Meat, Domino’s Pizza, Diamondback Energy, ONEOK, Hims & Hers, BioMarin, and Kratos.