Key Highlights

● Jobless claims fell to 197,000, the lowest since July.

● Consumer sentiment fell to 46.3 from 48.1 in September.

● Consumers' one-year inflation expectations rose again from September.

● CME FedWatch pointed to a December hike as most likely.

Thursday and Friday brought two economic readings that seem to describe different countries. On Thursday, initial jobless claims came in at 197,000, the lowest since July. That is a sign employers are holding on to staff and layoffs remain rare.

On Friday, the University of Michigan's preliminary October consumer sentiment index fell to 46.3 from 48.1 in September, a five-month low and below forecasts of about 48. Its gauge of current conditions sank to 44.7 from 50.9. Joanne Hsu, director of the survey, said: "Frustration over cost-of-living continues to mount."

For the Federal Reserve, which raised rates in September for the first time since 2023, each reading points to a different policy path.

The case for tightening

Low claims support the hawks. If workers are not losing jobs, household incomes hold up, spending can continue and inflation pressures can persist. Governor Christopher Waller said on Thursday he anticipates additional hikes to bring inflation back to the Fed's goal, adding: "For at least the near term, policy will be focused on the inflation side of our mandate."

The Michigan survey also contained a detail that strengthens that case. Consumers' one-year inflation expectations rose again from September and are well above where they stood in February, while longer-run expectations ticked up too. Central banks watch expectations closely, because if people expect prices to keep rising, they may demand higher wages and accept higher prices, making inflation harder to shift.

The case for caution

The gloomy consumer is the counterargument. Consumer spending drives most of the US economy, and a sharp drop in sentiment can foreshadow weaker spending. The September jobs report also showed only 29,000 positions added, well short of forecasts above 80,000, with the previous two months revised down by a combined 60,000.

Put together, a slow-hiring but low-firing job market and an anxious consumer suggest an economy that is cooling, even if it is not cracking. That mix is the main argument for patience before raising rates again.

Mood versus behavior

One complication is that what consumers say and what they do do not always match. Delta Air Lines (NYSE:DAL) chief executive Ed Bastian, reporting results on Friday, said: "The consumer response continues to be quite strong." He added: "Demand remains strong, supported by consumers' growing preference for experiences and travel". Delta still cut its full-year profit outlook, largely because of higher fuel costs, which shows how energy prices can squeeze companies even when demand holds.

Sentiment has also been dragged down by prices at the pump. The average US diesel price is $6.28 a gallon, according to market data, and Brent crude settled above $104 a barrel on Friday.

How markets are leaning

So far, investors think the Fed will side with inflation. CME FedWatch data on Friday pointed to a December hike as the most likely outcome, with about a one-in-five chance of a move at the October 27-28 meeting. The 10-year Treasury yield held near a 24-year high. Stocks rose anyway, with the S&P 500 up 46.18 points at 7,811.54 and the Dow up 423.31 at 51,654.95.

The minutes of the Fed's September meeting showed officials expected another increase would likely be appropriate by year end. The question is whether softening confidence changes that before December.

Retail Sales and CPI Will Show Which Signal the Fed Believes

September consumer prices on Wednesday, October 14, will show whether inflation is easing. Retail sales on Thursday, October 15, will test whether gloomy sentiment is translating into weaker spending. Bank earnings from Tuesday, October 13, will add evidence on household credit. The bond market is closed on Monday for Columbus Day. The Fed decides on October 28.