The Federal Open Market Committee (FOMC) today cut rates by 25 basis points (bps) for the third consecutive meeting, bringing the fed funds target rate range to 3.50%–3.75%. As it did last December after delivering 100 bps of total cuts in 2024, the committee again added language to its statement linking “the extent and timing” of further policy actions to incoming data and the evolving outlook. With only three meetings remaining in his term as Federal Reserve (Fed) Chair, this likely marks the final rate move of the Jerome Powell-led FOMC.
Today’s decision was predictably not unanimous. Jeffrey Schmid of the Kansas City Fed and Austan Goolsbee of the Chicago Fed dissented in favor of leaving policy rates unchanged, while Fed Board Governor Stephen Miran again dissented in favor of a larger 50-bp cut. Beyond the formal dissents, four additional committee members signaled a preference for holding rates steady by keeping their 2025 projection for the appropriate policy rate level unchanged at 3.875% (the midpoint of the target range).
Alongside today’s rate cut, the committee also announced the resumption of reserve management purchases (mostly of US Treasury bills) by the New York Fed to ensure “ample levels” of reserves in the banking system and allow for the smoother transmission of monetary policy. Despite some recent volatility in money markets, the timing of this announcement came somewhat earlier than markets had anticipated.
In the updated Summary of Economic Projections, median GDP growth forecasts moved modestly higher, while median core Personal Consumption Expenditures (PCE) inflation forecasts edged lower relative to forecasts from September. Expectations for labor-market conditions and the appropriate path of interest rates were broadly unchanged across all time periods.
At the press conference, questions for Powell were again centered around the tension between a vulnerable labor market and still-above-target inflation. Powell offered up the idea that policy rates are now “within a range of plausible estimates of neutral” and that most on the committee feel that they are now “well positioned to wait to see how the economy evolves” before taking further policy action. When asked about the possibility of the next move being a rate hike, Powell responded by saying that hikes aren’t “anybody’s base case at this point.”
As it relates to the labor market and inflation specifically, Powell repeated the familiar characterization of one being at tension with the other. Recent (alternative) data have indicated that a gradual cooling of the labor market has continued but we’ve not yet seen a pickup in layoffs and unemployment claims that would portend a “sharper slowdown.” At the same time, inflation remains above the Fed’s target but most of the excess is attributable to the impact of tariffs which, according to Powell, “should peak in the first quarter or so.” Powell cautioned against gleaning too much from delayed releases of official government data from October and November given that the government shutdown and “technical factors” likely distorted data quality. It remains to be seen how this will impact the market’s interpretation of next week’s nonfarm payrolls report.
In previous communications, we suggested that additional rate cuts would likely face growing resistance from FOMC members who believe that policy rates are no longer restrictive and that the upside risks to inflation (which has been above the Fed’s 2% target for the past five years) are at the very least equal to the downside risks in the labor market. The details of today’s report along with Powell’s characterization of the varying opinions on the committee suggest to us that the path of least resistance from here is a pause in the rate-cutting cycle.
Looking ahead to 2026, the prospect of an extended pause in the cutting cycle hinges on the near-term path of the labor market. It is well known that for the past several months, the FOMC’s visibility into real-time labor market conditions has been clouded by delays in top-tier data following the now-resolved government shutdown. This backlog of data is now being released and prior to the next FOMC meeting on January 28, policymakers will have seen three additional labor market reports that should go a long way in either confirming or pushing against the current narrative of a labor market in peril.
Away from the labor market, consensus has shifted toward expecting stronger economic momentum in 2026 with tariff-related price pressures anticipated to peak in the first quarter. At Western Asset, we sympathize with these views and look for easier fiscal and monetary policy to support personal and business consumption in 2026 while the continued normalization of wages and above-trend labor productivity should promote further gradual disinflation toward Fed targets.
Today’s rate cut brought with it a further steepening of the yield curve. While the recent steepening has been more subdued than the moves seen earlier in 2025, we continue to believe that positioning for further curve steepening can serve as a valuable offset to credit risk should our outlook for 2026 prove too optimistic.