The Federal Reserve held the policy rate steady in March at 3.5%–3.75%, a widely expected outcome as policymakers navigated an unusually complex macro backdrop. Modest upward revisions to near‑term inflation projections suggest that Fed officials view the recent energy supply shock as largely transitory, rather than a catalyst for persistent inflation pressure.
Overall, the Fed signaled continued patience regarding the timing of future rate cuts. The median path still points to eventual easing, but officials appear content to wait for greater clarity on the persistence of recent oil price shocks. This caution reflects uncertainty surrounding the Iran conflict and global energy supply risks, as well as questions about whether higher oil prices remain elevated temporarily or feed more durably into U.S. wages and inflation expectations.
Given the risks to both sides of the dual mandate, along with the Fed’s updated projections and communications, we still expect to see the Fed remain on hold through most of 2026, before resuming their easing cycle toward a neutral rate just above 3%.
Energy shock part of a balance of risks
As discussed in last week’s Macro Signposts (“Middle East Conflict Clouds the Economic Outlook”), the military conflict in the Middle East has increased the risk of a meaningful global energy supply shock.
Although the Fed typically looks through energy price fluctuations when assessing underlying inflation pressures, the current environment is more challenging given the economy’s recent experience with above‑target inflation. As a result, some officials appear more sensitive to the risk that persistent energy price increases could un-anchor inflation expectations or influence wage‑setting behavior. In his press conference, Fed Chair Jerome Powell also noted that the U.S.’s evolution into a net energy exporter could soften the drag on activity from higher oil prices, as sustained increases would likely spur additional investment in the domestic energy sector.
At the same time, the U.S. economy entered this shock with weaker underlying real income growth and a labor market that appeared less robust than headline GDP figures suggest, with recent payroll and aggregate hours data pointing to a labor market that is stagnating. In our view, these labor market vulnerabilities pose a more material risk in light of the near-term increase in activity supported by tax refunds. Some Fed officials appear to share this view, reinforcing the case for patience rather than preemptive tightening.
This perspective is further supported by the composition of recent growth. U.S. GDP has been driven disproportionately by productivity gains rather than labor input or underlying demand. With fading tariff effects and strong productivity helping to contain unit labor costs, we see the odds of renewed tightening as low, a view Powell echoed in his press conference.
Updated projections signal caution and coalescence
The Fed’s revised Summary of Economic Projections offers further insight into how officials are weighing current risks. Higher energy prices are expected to lift headline inflation in the near term and may push core inflation modestly higher, but the projections imply only limited spillovers to GDP growth or labor market conditions.
Productivity-led growth remains central to the outlook. Strong productivity helps explain why U.S. growth has stayed resilient despite weaker real income growth and slowing labor demand, and from an inflation perspective, productivity tends to act as a counterweight to cost pressures – supporting disinflation over time even as headline inflation is temporarily boosted by energy prices.
While the projection changes did not materially alter the median rate outlook, policymakers’ 2026 forecasts (the “dot plot”) clustered more tightly around the median. Despite this apparent convergence, Powell emphasized the unusually low degree of conviction around the forecasts, given uncertainty over both the magnitude and persistence of the energy shock. Although productivity was cited as a driver of sustained growth across the projection horizon, officials see only a partial pass‑through to neutral rates, with the long‑run dot revised up by just 10 basis points.
Powell emphasized patience amid uncertainty
In his press conference, Powell avoided endorsing the more dovish argument that the Fed should simply “look through” the energy shock given the heightened uncertainty. At the same time, he pushed back on the notion that renewed tightening is under serious consideration, underscoring the Fed’s preference for patience.
Powell also addressed leadership transition issues. His likely successor, Kevin Warsh (read more in our recent article: “Under a Warsh Fed, Expect a Thoughtful Policy Approach”) may face delays in his confirmation process; if necessary, Powell would remain as chair pro tempore until the process concludes. Powell added that he intends to remain at the Fed until any Department of Justice investigation is resolved. While Powell’s term as chair ends in May, his term as a Fed governor runs until January 2028, and he said he hasn’t decided whether he will stay until the end of that term.
Caution and stability continue to define Fed policy
Looking ahead, policymakers still expect interest rates to move lower over time, but conviction remains low amid the energy shock. Powell noted that economic growth remains solid and that labor market slack is contained, reflecting a slowdown in both supply and demand. While core inflation remains above target, he attributed much of its persistence to tariff effects rather than overheating demand.
As those tariff effects fade – and with productivity-driven growth continuing to restrain unit labor costs – core inflation should continue to trend toward target, even as higher oil prices temporarily lift headline inflation. Combined with rising downside risks to the labor market, this backdrop supports a gradual and cautious easing cycle toward the Fed’s estimated neutral rate just above 3%.
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