US economic outlook: January 2026

Powell's final act

Jerome Powell's eight-year tenure as Chair of the Federal Reserve is coming to a close during a period of intense pressure on the U.S. central bank and divided views among policymakers about the appropriate stance of monetary policy. What can we expect from Powell's final act as Chair against this backdrop?

The labor market remains modestly on the wrong side of full employment. Private sector job growth has been near zero in recent months, and while the unemployment rate ticked down in December, it remains above most estimates of the longer run, natural rate.

Meanwhile, the recent inflation data have been encouraging. The December reading for core CPI was 2.6% year-over-year, down from 3.1% in August. Shutdown-related quirks may be depressing core CPI inflation by a tenth or so, and the Fed's preferred inflation measure, the PCE deflator, likely has not shown quite as much improvement. But the direction of travel for core inflation entering 2026 is clear, in our view.

Thus, we see scope for the FOMC to continue to nudge the federal funds rate toward neutral in the coming months. We are sticking with our previous forecast of two 25 bps rate cuts in March and June, followed by a long pause at 3.00%-3.25% for the federal funds rate.

But the window for additional cuts is starting to close, in our view. Fiscal stimulus from the One Big Beautiful Bill Act should start to be felt in the spring/summer, and the risks to U.S. tariff rates appear skewed to the downside, another potential catalyst for faster economic growth later this year. The lagged impact from the 75 bps of Fed easing over the past three months also should help at the margin.

If the labor market and inflation data are on the hotter side over the next couple of months, Chair Powell and company may elect to stand pat and hand the reins to the next Chair with policy unchanged. That individual may face some skepticism from a committee that has endured increasing pressure from the Trump administration. Our belief that economic growth will be firming throughout the spring/summer months only would add to the case to remain on hold.

For now, we are sticking with our call, but we think the risks to our forecast for the federal funds rate are skewed toward later and/or less policy easing than our base case projection.

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