Moving From Cuts to Caution: Fed Enters 2026 in Wait-and-See Mode

by Tiffany Wilding, Allison Boxer of PIMCO, 12/12/25

The Federal Reserve delivered a widely expected 25-basis-point (bp) rate cut in December, then signaled a more data-dependent path ahead. Barring an economic shock, we probably won’t see another rate cut until the second half of next year.

In the weeks since the previous meeting in October, several Fed officials had expressed discomfort with further rate cuts. Indeed, two officials dissented outright at this meeting by voting to hold the rate steady (and one official voted to cut 50 bps). Four officials used the new economic projections – or “dot plot” – to show they would have preferred to pause in December. Consistent with this sentiment, the statement changes reflected a committee poised to hold rates steady after cutting rates by 75 bps over the past three meetings.

During the press conference, Fed Chair Jerome Powell emphasized downside labor market risks as an impetus for the rate cut. Given an increasingly large share of the rate-setting committee seemed uncomfortable with further cuts, and with the policy rate within “plausible estimates of neutral,” he noted that the Fed should be well-positioned to wait for more data and to react as risks to the outlook evolve.

Bond yields moved modestly lower as Powell declined to provide a firmer signal that the Fed does not expect to cut again and instead embraced data dependence.

The fed funds rate in 2026

Our policy outlook is largely aligned with that of Fed officials and with current market pricing: We expect the Fed to hold rates steady in a range of 3.5%–3.75% for the remainder of Powell’s term as chair, which runs through May, before resuming gradual rate cuts later in the year under new Fed leadership.

There’s “persistent tension” in both parts of dual mandate, as Powell phrased it. Surprisingly resilient U.S. growth in the second half of 2025, plus household and business tax cuts that will boost after-tax incomes in 2026, risks further delaying inflation’s progress toward the Fed’s 2% goal. Nevertheless, the Fed remains well-placed to cut further if stronger growth fails to stabilize the increasingly soft U.S. labor market. And even if downside risks are avoided, we believe the Fed will likely be able to resume gradual rate cuts in late 2026 as inflationary pressures ease.

The Fed faces a delicate balancing act: Curb inflation while supporting the labor market so that households feel economically secure. Powell warned there is no risk-free path. He noted a reasonable baseline is that tariff-driven inflation effects – essentially a one-time shift in the price level – will likely ease, and he highlighted notable progress this year on non-tariff-related inflation. On the labor market, October data were not collected and November data are incomplete, so upcoming data must be assessed carefully. Consumer spending and productivity appear to support economic activity. Fiscal policy remains supportive, and business investment in AI is holding up.