Speech by Chair Powell on the economic outlook

Federal Reserve Chair Jerome Powell, in his September 23, 2025, economic outlook, noted a moderating U.S. economic growth (1.5% H1 GDP) and a softening labor market, evidenced by a 4.3% unemployment rate and significantly slowed job gains. Despite these trends, inflation remains somewhat elevated (Total PCE 2.7%, Core PCE 2.9%), largely due to tariff-induced goods price increases, which are expected to be a temporary "one-time shift." Consequently, the Fed recently lowered the federal funds rate by 25 basis points to 4-4.25%, shifting towards a more neutral, yet modestly restrictive, policy stance to balance growing downside risks to employment with persistent near-term inflation concerns, while remaining data-dependent.

Analysis

Federal Reserve Chair Jerome Powell's latest economic outlook signals a significant policy pivot amid a complex and challenging macroeconomic environment. The Fed has shifted toward a more neutral stance, executing a 25 basis point rate cut to a 4.0-4.25% range, in response to rising downside risks to its employment mandate. This move comes as economic growth has moderated to a 1.5% pace in the first half of the year, down from 2.5% in 2024, and the labor market shows clear signs of softening, with monthly payroll gains slowing to just 29,000, a rate below that needed to hold unemployment steady. Simultaneously, the Fed is grappling with persistent, albeit moderated, inflation. Both headline (2.7%) and core PCE (2.9%) inflation have recently ticked higher, a development Powell attributes primarily to the pass-through effects of tariffs on goods prices. The central bank's base case is that this is a 'one-time' price level adjustment rather than a persistent inflationary trend, allowing it to prioritize the growing employment risks. However, Powell acknowledges the 'challenging situation' of managing upside inflation risks and downside employment risks, describing the current policy as 'modestly restrictive' and emphasizing that future decisions are not on a 'preset course,' making incoming data on both employment and inflation exceptionally critical.

Key Decisions for Investors

• Given the Fed's explicit 'data-dependent' stance and acknowledgment of two-sided risks, investors should anticipate heightened market volatility around key releases of employment and inflation data, as these will be primary drivers of future policy moves.
• The characterization of tariff-induced inflation as a 'one-time' event suggests the Fed may tolerate a near-term inflation overshoot, which could limit a significant rise in long-term bond yields; however, the front-end of the yield curve will remain sensitive to any data that challenges this view.
• Powell's commentary highlights diverging sector performance, noting weak housing and slowing consumer spending alongside a pickup in business investment, suggesting investors should review their sector allocations, potentially favoring industrials or technology exposed to capital expenditures over consumer-discretionary and rate-sensitive names.
• With downside risks to employment explicitly rising, it is prudent to assess portfolio exposure to cyclical assets and consider increasing allocations to defensive positions or implementing hedging strategies to mitigate potential economic softening.