Lacking fresh economic data, markets have become increasingly jittery in recent weeks. With reliable reports (namely, the U.S. Bureau of Labor Statistics’ Consumer Price Index and Employment Situation) delayed or incomplete, investors have been reacting sharply to any stray headlines that surface. Now, as the government shutdown ends, each long-awaited data release or policy announcement will have the potential to move markets dramatically.
This uncertainty reflects the confusing state of the U.S. economy. Broad activity still appears resilient on the surface, yet pockets of businesses and households are increasingly cautious beneath it. Understanding that tension, between apparent stability and the potentially hidden fragility, has become central to interpreting both policy and asset prices.
Surface stability, underlying friction
At first glance, the economy appears resilient: the Atlanta Fed GDPnow forecasting model suggests that GDP growth in Q3 was around 4%. Moreover, unemployment remains close to record lows at 4.3%, and layoffs remain largely contained. Yet this apparent stability masks important shifts. According to multiple surveys, hiring momentum has slowed, wage growth remains uneven, and supply-side factors, such as immigration, are altering labor dynamics.
A K-shaped divide
The economy’s resilience also hides a growing divide across income groups. Higher-income households remain buoyant, supported by rising equity markets and steady employment. Meanwhile, lower- and middle-income consumers face not only tighter credit conditions, rising loan costs, and stagnant wages, but also increased exposure to rising price pressures from trade tariffs. The divergence is widening, and as consumption is still the backbone of growth, it poses a latent risk to the broader expansion.
This “K-shaped” dynamic complicates the Federal Reserve’s path forward. With the top 20% of households by income accounting for 40% of total consumer spending, while the bottom 20% account for less than 10% of consumer spending, should policymakers focus on aggregate stability and risk leaving vulnerable groups further behind, or should they act to ease financial conditions and risk reigniting inflationary pressures?
The neutral rate debate
The debate over the “neutral” interest rate—the level that neither stimulates nor restrains growth—remains unresolved. Estimates range from 2.5% to 4.0%, leaving policymakers uncertain about whether the current Fed funds rate, at 3.75%-4%, is already at neutral and therefore restrictive enough. Setting monetary policy during such a period of high uncertainty, or, as Fed Chair Powell put it during the October FOMC meeting, “driving in the fog,” may suggest a cautious approach to rate decisions is advisable: a near-term pause until the Fed can more confidently assess economic conditions. Yet, as history suggests that labor market softening can escalate quickly, the more prudent course of action may be to just press ahead with lowering rate cuts until they are closer to the center of the neutral rate range.
Equities and concentrated risk
The equity market is also reflecting some tension. Tech giants continue to power higher, yet their success is also fueling speculation about an AI bubble. Valuations are certainly stretched, yet they remain below the extremes of the dot-com era and are currently supported by solid earnings growth, robust revenue prospects, and healthy balance sheets.
Still, with AI-related capital expenditure reaching eye-popping levels (some estimates suggest that AI capex will reach $1.3 trillion over the next five years), some investor skepticism about the likely return on that investment is healthy, particularly when it is impossible to quantify the scale of productivity improvement to expect.
One potential warning sign to monitor is rising debt-funded AI capex. If that trend accelerates relative to market cap, it could signal bubble territory. Given that AI investment has become a major driver of growth (tech spending is estimated to have contributed roughly one-third of real GDP growth in the first half of the year) and that household wealth remains closely linked to equity market performance, any sharp correction in AI-related assets could quickly spill over into consumer spending and broader economic prospects.
Implications for investors
As the Fed heads toward its December meeting, the policy path remains wide open. To our minds, a 25 basis point cut taking the Fed funds rate closer toward the middle of the estimated neutral range seems plausible, followed by a pause in early 2026 while officials assess the lagged effects of prior tightening.
For investors, the message is clear: stay nimble. In an environment where information is scarce and cross-currents risk evolving into rip tides, reactions can be magnified, and portfolio flexibility matters more than bold conviction. Positioning for tech innovation, diversifying for growth risks, and keeping an eye on liquidity are key advantages. The winners in today’s market will likely be those who adapt quickest to shifting signals without overreacting to noise.
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