After a period of data fog, there’s some visibility on the Fed’s potential path. Putting aside shutdown-related data distortions, the unemployment rate has risen to a four-year high, still well below recessionary levels, while core inflation sits near a four-year low. Together, these trends reinforce the case for a more dovish policy approach. One single rate cut is penciled in the Fed’s 2026 dot plot, but additional cuts, perhaps coming earlier in the year, will likely be warranted.
The past week featured two influential economic releases for Fed policy: employment and inflation. After limited visibility due to the U.S. government shutdown, investors are approaching the holidays with a clearer picture of the Fed’s likely path ahead.
Employment: Headline payroll weakness was driven by deferred resignations in federal jobs, though offset by gains in private payrolls. Overall, it reinforces the view that the labor market is cooling but not collapsing. Still, the unemployment rate is at a four-year high, a development that the Fed is unlikely to dismiss.
Inflation: The absence of October data, combined with distortions in the November data collection, has made it more challenging than usual to accurately gauge the true direction of inflation. Nevertheless, headline and core inflation were much softer than expected, with core inflation near a four-year low. While some tariff-related caution remains warranted, there’s little evidence of a sharp reacceleration in prices.
Taken together, the latest economic readings are likely to give doves in the Fed the upper hand, though uncertainty remains with one more inflation and employment report due before the Fed’s next meeting in January 2026. For now, we expect two rate cuts next year, likely in the first half, and, provided unemployment doesn’t spiral, a resilient economy, cooling inflation and easier policy should be supportive for risk assets in the year ahead.
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