Fed Cuts Cautiously Amid Inflation and Labor Strains
The Federal Reserve finds itself walking a tightrope as 2025 draws to a close, balancing a cooling labor market against inflation that refuses to fully retreat. The central bank delivered its third consecutive quarter-point interest rate cut, lowering the benchmark rate to a range of 3.50–3.75%, marking the lowest level in more than three years(1). The decision, however, was far from unanimous: three voting members dissented, representing the largest number of dissenters since 2019 and reflecting genuine disagreement within the committee about how to balance these competing pressures. Chair Jerome Powell emphasized that after reducing rates by a cumulative 1.75 percentage points since September 2024, the Fed is now “well positioned to wait and see how the economy evolves.” The central bank’s updated projections suggest only one additional cut in 2026, a notably cautious stance that surprised markets expecting more aggressive easing.
Markets Stay Resilient as Yields Steepen
Equity markets have navigated this environment with resilience, though recent sessions have shown increased volatility. The S&P 500 briefly touched a new record high before pulling back, as investors rotated away from some high-flying artificial intelligence stocks. For the year, the S&P 500 remains up approximately 17%, marking what would be a third consecutive year of strong gains. Treasury yields have steepened, with the 10-year note hovering around 4.17% and the 30-year approaching 4.85%, as bond investors recalibrate expectations for future Fed policy and grapple with concerns about persistent inflation and rising government debt issuance.
Job Growth Cools but Labor Market Remains Stable
The labor market continues to show signs of cooling, with job creation slowing considerably in the second half of the year compared to the robust pace seen in 2023 and early 2024(2). Private payroll data indicated particularly weak hiring in November, with small businesses bearing the brunt of the pullback(3). The unemployment rate has edged up to a four-year high of 4.6%, still low by historical standards but notably higher than the 4.2% rate a year ago(2). Job openings remain elevated at 7.7 million, though the quit rate has declined to its lowest point in several years(4). This “low hire, low fire” environment reflects a labor market that is softening but not in distress, giving the Fed reason to pause and assess before taking further action.
Bottom line
Financial markets appear to be entering a more discerning phase where fundamentals and profitability carry greater weight. The Federal Reserve’s continued, albeit cautious, easing cycle provides some support for risk assets, but rising yields and lingering inflation concerns are tempering enthusiasm. The rotation in equities and the repricing of high-flying AI stocks suggest investors are recalibrating toward more balanced portfolios as the year winds down. Meanwhile, uncertainty around trade policy and geopolitical tensions continues to weigh on business confidence globally. As 2025 comes to a close, markets are working through a backlog of economic data delayed by this fall’s government shutdown, with key readings on jobs, inflation, and consumer spending clarifying where the economy is headed in 2026.
(1) Source: Board of Governors of the Federal Reserve System, https://www.federalreserve.gov/newsevents/pressreleases/monetary20251210a.htm
(2) Source: Bureau of Labor Statistics, https://www.bls.gov/news.release/empsit.nr0.htm
(3) Source: ADP National Employment Report, https://adpemploymentreport.com/
(4) Source: Bureau of Labor Statistics, https://www.bls.gov/news.release/jolts.nr0.htm