Much better-than-expected economic data was released on Tuesday, and Wall Street is considering what that means for the Federal Reserve in the new year. Real gross domestic product (GDP) grew at a pace of 4.3% in the third quarter, well above the 3.2% expected by economists surveyed by Dow Jones. Although the report is outdated, given that it was delayed from its original Oct. 30 announcement in the wake of the longest U.S. government shutdown in history, it was enough to make us think the Fed is unlikely to cut rates in early 2026, putting some pressure on stocks heading into morning trading. Stocks have since recovered and traders are still overwhelmingly pricing in two quarters of rate cuts next year, even though the odds of a central bank rate cut in January and March have diminished, according to the CME FedWatch tool. However, questions remain as to whether this will actually influence the Fed’s future decisions. Michael Pearce of Oxford Economics said the recent quarterly services survey, which tracks the performance of the services industry, may not have been fully factored into the economic forecasts in the latest GDP report, which could help explain why it came in much better than expected. Pearce, the firm’s chief U.S. economist, said he expects the Fed to remain in wait-and-see mode for a while longer. “While GDP numbers are always a little outdated by the time they are released, the news that the fundamental engine of the economy is still in decent shape across many measures is another reason to expect the Fed to move to the sidelines early next year,” he told CNBC. “This supports the idea that the labor market will stabilize early next year and that the risks between higher inflation and downside risks to the labor market are more closely balanced than in recent months.” “Our view is that the Fed is currently keeping policy on hold through June,” he said. Gary Schlossberg, global strategist at Wells Fargo Investment Institute, echoed that view, saying “strong” growth in the U.S. economy “further reduces the likelihood of further rate cuts” at the Fed’s January meeting. He also said the report “suggests an unexpectedly strong continuation of momentum into the final quarter of the year, providing further evidence that the slowdown in the fourth quarter may be only modest.” But others, like eToro’s U.S. investment analyst Brett Kenwell, were less convinced that the data would have a meaningful impact on the Fed’s interest rate outlook. “Although the GDP report suggests that the underlying economy is fairly strong, investors should not place too much weight on economic fundamentals when forming interest rate expectations for 2026,” he said, adding that economic strength alone is “unlikely to accelerate rate cuts.” “Rather, the Fed’s decisions hinge on its dual mandate of price stability (inflation) and maximum employment (labor market). If the labor market continues to cool and inflation stabilizes or declines, the Fed is likely to ease policy, regardless of how strong headline GDP appears.” Other factors may be at play and may even benefit a rate-cutting path from here. FWDBONDS Chief Economist Chris Rupkey said, “With the Fed chair in charge of the committee, there is a strong possibility that the Fed rate will fall to neutrality more quickly in 2026,” arguing for a rate cut of two to three quarter points by 2026. “Whether the Fed chairman is Mr. Hassett or Mr. Warsh or a surprise surprise, there will be extreme pressure to go along with the president’s well-known calls for sharp interest rate cuts,” he told CNBC. “If the situation subsides, the Fed rate will likely be cut to a neutral 3% by the end of 2026.” The Fed cut its benchmark overnight borrowing rate for the third time this year at a meeting earlier this month. The quarter-point cut will put the federal funds target rate in the range of 3.5% to 3.75%. The central bank’s “dot plot” shows that there will only be one rate cut next year.
