Economic Outlook & Monetary Policy: Key Takeaways from Vice Chair Philip N. Jefferson

At the start of 2026, Vice Chair Jefferson strikes a cautiously optimistic tone on the U.S. economy, emphasizing stabilization in the labor market, gradual progress on inflation, and a monetary policy stance that is now closer to neutral.

1. Economic Outlook: Growth Slowing but Still Solid

• Growth remains resilient: GDP grew at a strong 4.3% annualized rate in Q3 2025, driven by consumer spending and exports. Near-term growth is expected to moderate to around 2%, partly due to the temporary effects of the federal government shutdown.

• Labor market is cooling, not collapsing: Job growth has slowed, unemployment edged up to 4.4%, and hiring has softened—but layoffs remain low. Jefferson expects unemployment to remain broadly stable in 2026.

• Labor supply constraints matter: Lower immigration and participation have reduced labor force growth, contributing to slower job creation.

2. Inflation: Progress, but Uneven

• Inflation has fallen significantly from its 2022 peak, with CPI inflation at 2.7% and core CPI at 2.6% in December 2025.

• Disinflation has slowed: While shelter and services inflation continue to ease, core goods inflation has risen, partly due to tariffs.

• Tariff effects seen as temporary: Jefferson views recent tariff-driven price increases as a one-time level shift, not a persistent inflation driver.

• Inflation expectations remain anchored, reinforcing confidence that inflation will return sustainably toward the 2% target.

3. Monetary Policy: Rates Near Neutral

• With downside risks to employment rising, Jefferson supported the rate cuts implemented in 2024–25.

• Since mid-2024, the policy rate has been reduced by 1.75 percentage points, bringing it close to the neutral rate—neither stimulating nor restricting growth.

• The current stance gives policymakers flexibility, allowing future decisions to remain data-dependent rather than pre-committed.

4. Monetary Policy Implementation: Balance Sheet and Reserves

• The Federal Reserve has ended balance sheet runoff, concluding a $2.2 trillion reduction in assets that began in 2022.

• As reserves declined toward “ample” levels, money market pressures increased, which is consistent with how the Fed’s operating framework is designed to function.

• To maintain effective rate control, the Fed began reserve management purchases in December 2025.

5. Reserve Management ≠ Quantitative Easing

Jefferson makes a clear distinction:

• Quantitative Easing (QE) is used when rates are near zero to stimulate the economy by lowering long-term yields.

• Reserve management purchases are technical operations using short-term Treasuries to ensure ample reserves and smooth control of short-term interest rates.

• These purchases do not change the stance of monetary policy.

6. Standing Repo Operations Strengthened

• The Fed eliminated limits on standing repo operations, reinforcing them as a ceiling for money-market rates.

• Increased usage during year-end 2025 helped keep markets orderly, even amid heavy Treasury settlements.

Bottom Line

Vice Chair Jefferson’s message is one of measured confidence:

• The economy is slowing to a sustainable pace.

• Inflation is moving closer to target, though not in a straight line.

• Monetary policy is now well-calibrated, with tools in place to manage both macroeconomic risks and market functioning.

The Fed, he emphasizes, is positioned to respond—not react—as new data arrive, while continuing to pursue its dual mandate of maximum employment and price stability.

Note: ChatGPT used to summarization and research