Fed remains on the sidelines as U.S. economy muddles through tariff tumult

Executive summary

As expected, the Federal Reserve (Fed) left its target federal funds rate unchanged. Similarly, the Fed’s balance sheet runoff will continue at the current pace.

The committee released the updated economic projections – the so-called ‘dot plot’ – which still foresees two rate cuts in 2025 but lowered the growth outlook and increased their views on inflation and the unemployment rate compared to the March projections

During the press conference, Fed Chair Jerome Powell stuck to the proverbial script. He reiterated that the Fed isn’t in a hurry to change monetary policy, especially given the balance of risks and ongoing uncertainty. He maintained maximum flexibility.

Accordingly, the initial stock and bond market reactions seemed to shrug and were largely unchanged from pre-meeting levels.

The Fed remains in ‘wait & see’ mode, which we expect will persist for a while longer. At this point, we see Fed rate cuts restarting in September or October. We still have 50 basis points (0.50%) penciled in for 2025, though a compressed timeline may limit the Fed to only one cut this year. 

What happened

At its June rate-setting meeting, the Federal Open Market Committee (FOMC) maintained its target range for the federal funds rate at 4.25% – 4.50%, holding steady where it’s been since December.

It will also maintain the pace of its balance sheet runoff (i.e., quantitative tightening, or QT). The monthly redemption caps on U.S. Treasury securities remain at $5 billion and $35 billion for agency mortgage‑backed securities (MBS).

Additionally, the FOMC released its June statement of economic projections, which foresees two rate cuts this year, the same number compared to the March release; however, it now projects just one rate cut in 2026 (one fewer), and one in 2027. The FOMC now expects slower economic growth, higher inflation, and the unemployment rate ticking upward to 4.5% by the end of 2026.

In his prepared remarks during the post-meeting press conference, Chair Powell reiterated that swings in net exports due to tariffs are impacting economic data and complicating forecasts. He leaned into the notion that the labor market was stable and, thus, didn’t appear to need additional help (e.g., rate cuts), while inflation remained above both their two percent target and longer-term trends.

Powell repeated that the committee was "not in a hurry to lower rates" in the near term. Yet, he said that the committee expects to see the pass-through of tariffs to consumer prices during the summer months. He also noted that people can look at the same data but evaluate risks differently and reach different policy conclusions.

Our take

The Fed is sitting on the sidelines awaiting more clarity on tariffs. Moreover, the on-again/off-again dynamic of tariffs validates that ‘wait & see’ mode is appropriate.

As we expected, Chair Powell maintained maximum flexibility – rightly stating that there’s no upside in rushing to do “something” with interest rates. That’s particularly true in the face of ever-changing trade policy and an unsettled fiscal path forward.

The U.S. economy has remained remarkably resilient – even in the face of tariff announcements and massive policy uncertainty. The latter is likely to get further complicated by the packed summer Congressional agenda, which is wrestling with the so-called “One Big Beautiful” tax bill, the debt ceiling, and funding appropriations for the next fiscal year, among other issues.

We’re even beginning to see the stubbornly grim consumer sentiment thaw somewhat. Alas, the disorienting on-again/off-again nature of trade policy reinforces the notion that companies should stay in ‘wait & see’ mode, which isn’t pro-growth for the economy or their business. Conversely, it likely doesn’t connote doom and gloom. Instead, we believe it translates into a ‘muddle-through’ environment—where growth is slowing but not stalling. It also keeps the Fed in a holding pattern for several more months, including at this coming week’s meeting.

We still have Fed rate cuts of 50 basis points (0.50%) penciled in for 2025 but now see that starting in September or October. However, it’s plausible that, by waiting until October for the first rate cut, a compressed timeline may limit the Fed to only one cut this year.

Bond market reaction

Since the May FOMC meeting, U.S. Treasury yields have risen modestly across the yield curve but have fallen from their late-May peaks. For example, the 30-year U.S. Treasury yield touched its highest level since October 2023 before strong U.S. Treasury debt auctions and benign inflation data pulled yields lower. Intermediate and longer-term rates are experiencing elevated volatility, caught between softening economic data and geopolitical tensions on one side, and rising federal deficit concerns and a very fluid global trade backdrop on the other. Since the last FOMC meeting, the 10-year yield has largely chopped between 4.2% to 4.6%, trading at roughly 4.35% just before the rate decision.

Heading into the release of the Fed’s statement and the subsequent press conference, U.S. Treasury yields had already declined 0.03% to 0.05%, with the more pronounced drop concentrated in the front end of the yield curve. Although Fed Chair Powell’s comments hewed closely to the official statement, U.S. Treasury yields trimmed most of their morning gains. Additionally, traders’ convictions that the Fed would lower the federal funds rate by 0.5% before year end strengthened, but only modestly. Overall, the reaction in fixed income markets suggests the FOMC meeting today closely mirrored market’s pre-meeting expectations.

U.S. interest rates will remain very sensitive to fiscal and trade policy developments and incoming economic data, particularly with respect to inflation and the labor market given their influence upon Fed policymaking. The market’s reactions to these factors may create tactical opportunities to adjust portfolio duration; however, the intermediate portion of the yield curve is currently trading near our assessment of fair value. Thus, we continue to recommend a neutral duration posture within a fixed income portfolio relative to intermediate benchmarks

Bottom line

The Fed remains on the sidelines with respect to rates, awaiting more information on tariffs and fiscal policy changes in Washington. We still see Fed rate cuts of 50 basis points (0.50%) in 2025, starting in September or October, but wouldn’t rule out only one cut this year.