Through the first half of the year, trends across the U.S. economy have held up relatively well considering heightened policy uncertainty, market volatility, and weaker business and consumer sentiment. Recent data on inflation and labor markets suggest modest cooling on both sides of the Fed’s dual mandate, while consumer spending growth has held steady at slightly slower levels than 2024. As tariffs cycle through the economy over the coming months, inflation could move further away from the Fed’s 2% target for a period of time. We view the Fed as well-positioned to be patient and maintain its data-dependent approach to adjusting rates. We look for one 25bp cut in December.

Our outlook focuses on several key dynamics:

1. Slower growth in the second half, but not recession

After the first two quarters of the year delivered GDP growth of approximately 1% on average, we expect a further slight downshift in the second half as lingering policy uncertainty affects business capex and higher tariffs — a headwind to consumer spending — cycle through the economy. Stable labor markets and consumer income visibility limit the risk the economy slips into recession, though that risk is higher than earlier this year. We look for below-trend GDP growth of 1.0% in 3Q and 0.5% in 4Q. 

2. Inflation could heat back up before cooling to the Fed’s target

Inflation, as measured by the core PCE index, has made further progress toward the Fed’s 2% target this year, reaching 2.7% in May. While there have been limited signs of tariff impacts in the reported inflation data so far, we expect this could become more evident in the next few months. Annualized core PCE could rise toward 4.6% in 3Q before ending the year at a still-elevated 3.4%.  

3. Labor markets softer, but stable

The unemployment rate has drifted only slightly higher from 4.0% in January to a still-low 4.1% in June, with average monthly payroll additions of 130,000 through the first six months of the year. A notable rise in continuing jobless claims in recent weeks foreshadows potentially less hiring activity over the next few quarters, which could cause the unemployment rate to rise to the mid-4% area by the end of the year. Reduced immigration is slowing the growth of foreign-born workers in the U.S., which recently reached an all-time high 19.5% of the total workforce. 

4. Fed in “no rush” to cut rates

The forecasting environment in 2025 has been challenging given the combination of shifting government policies, lower business and consumer confidence, and relatively resilient “hard” economic data. As monetary policy remains somewhat restrictive, the Fed views itself as being in a good place to wait for more clarity before adjusting policy rates. We expect the next 25bp cut to take place in December, bringing the Fed Funds range to 4.00–4.25% at year end. We look for an additional three consecutive cuts in early 2026 before another pause.

5. Washington remains in focus

The path for clarity on the administration’s policies could stay bumpy over the next several months with several ongoing trade negotiations, implementation of the recently passed fiscal bill, national debt concerns and elevated geopolitical tensions. Progress on these important areas, along with additional deregulation, could bolster corporate confidence into 2026. In the near term, businesses and consumers may proceed cautiously with large outlays, and export demand could soften. 

Stats reported in this outlook are as of July 3, 2025.