Growth at Equilibrium: Why the Fed Can Now Normalize Rates

• Recent GDP data put the 2025 annualized rate at 2.2%

• That’s in-line with the 2.1% growth rate since 2000.

• That should support the case for additional Fed easing later this year.

The most recent economic growth metrics improved the chances of more central bank stimulus later this year…

Last week’s fourth quarter gross domestic product (“GDP”) report from the U.S. Bureau of Economic Analysis stoked the newest wave of pessimism about the U.S. economy. Growth slowed to 1.4%, falling short of Wall Street’s expectation for something closer to 2%, and well below the prior quarter’s 4.4% pace. The headline miss was enough to reignite the familiar narrative that the expansion is running out of steam, even though the number says more about the quarter’s distortions than the economy’s true momentum.

Beneath the surface, the picture looks far more resilient. One of the biggest drags on growth was the collapse in federal spending tied to the record‑long government shutdown. It was a temporary hit, not a structural break. At the same time, consumer spending cooled but remained solid, business investment held up, and AI‑linked capital outlays continued to surge. In other words, the growth backdrop is softer, not fragile, and the underlying demand engine is still very much intact.

That distinction matters for the Federal Reserve. A softer but not fragile economy changes the central bank’s outlook on policy support. Last year’s growth trend hovered right around the long‑term average. That’s exactly the kind of sustainable pace the Fed has been trying to engineer for years. An economy settling into something closer to equilibrium is a signal for policymakers. It should indicate they now have room to guide interest rates back toward more normalized levels without risking an inflation flare‑up or a hard landing.

But the Fed won’t want to wait too long to offer that support. Acting sooner rather than later reduces the odds that it’ll need to take more dramatic action down the road. Based on the data I look at, the central bank has plenty of room to lower rates while keeping policy aligned with its long‑run goals. That should help to ease financial conditions, underpin stable growth, and support a steady rally in the S&P 500 Index.

But don’t take my word for it, let’s look at what the data’s telling us…

If we really want to understand what today’s pace of economic growth looks like, we need to frame it through a historical lens. Context is everything. A single quarter can look weak or strong in isolation, but the real signal comes from stacking it against decades of data. Take a look at the following chart of quarterly GDP growth since 2000...

To get a true long‑run perspective, I pulled every quarterly GDP print going back to 1947. I added them up, averaged them, and calculated the long‑term quarterly run rate. According to the math, the U.S. economy has grown at an average 3.1% seasonally adjusted annualized rate over that entire period. That’s well above the 1.4% pace we saw in the fourth quarter and comfortably above the 2.2% growth rate for all of last year. On that basis alone, the latest numbers look soft. But softness isn’t the same thing as weakness.

Still, I wanted to frame the data in a way that better reflects the modern economy. The structure of growth today looks nothing like the 1950s, 1970s, or even the early 1990s. Technology, globalization, demographics, and productivity dynamics have all shifted. So, I ran the same analysis starting in 2000. That way, we could capture the digital economy, the post‑China‑WTO era, and the rise of AI‑driven investment. On that basis, the economy has averaged a 2.1% annualized rate. That’s still above the fourth‑quarter print, but it lines up almost perfectly with the 2.2% increase for all of 2025.

Now, here’s where this matters for the Federal Reserve. For years, policymakers have been trying to guide the economy back toward its long‑term run rate. Based on the data, last year was the first time we’ve seen that kind of balance since the pandemic. And at that time, the federal funds rate sat closer to 2.3%, far below today’s 3.6%. So, our next step is to look at how much capacity our central bank has to ease if it wants to try and return borrowing costs to pre-pandemic levels.

To quantify that capacity, we look at the real rate of interest (the effective fed funds rate minus inflation). The most recent Consumer Price Index (“CPI”) data showed inflation running at 2.4% in January. Do the math, and it tells us the Fed currently has about 120 basis points of room to cut before policy reaches the so‑called neutral level, where it’s neither hurting nor helping the economy.

But, once again, perspective matters. So, I ran the real‑rate data back to 2000 to see how the Fed has historically managed policy in the modern era. Over that span, real rates have averaged –0.6%. That means the Fed has closer to 180 basis points of potential easing before it reaches the level it has effectively targeted for two decades. That would put the fed funds rate slightly below pre‑pandemic levels — and well within the range of what the economy has already proven it can handle.

Look, Wall Street is currently anticipating two rate cuts by the end of next year. If that happens, the effective federal funds rate would fall to roughly 3.1%. And if monthly inflation growth averages around 0.2% through December, which keeps the annual pace right where it is today, the real rate of interest would still show the Fed has at least 70 basis points of additional room to ease. In other words, even after meeting market expectations, policymakers would still have meaningful capacity to support the economy.

At the end of the day, those numbers are exactly what investors should want to see. They tell Wall Street that the Fed can deliver the easing path already priced into markets and still maintain a cushion for further action if conditions soften. That kind of flexibility supports optimism for stable growth, keeps financial conditions from tightening prematurely, and boosts the outlook for hiring. And that should underpin a steady, long‑term rally in the S&P 500.

Five Stories Moving the Market:

The Supreme Court ruling on President Donald Trump’s tariffs has unleashed a fresh wave of global uncertainty, as governments and businesses scramble to figure out whether to rewire global supply chains, reopen trade deals and seek refunds for hundreds of billions of dollars in tariffs – WSJ. (Why you should care – the White House’s initial suggestion of 15% across-the-board tariffs is unlikely to stick as officials focus on affordability heading into November’s midterm elections)

Japanese Trade Minister Ryosei Akazawa warned against any tariff moves that could leave Japan worse off than under a Japan-U.S. trade deal agreed to last year, during a phone call with U.S. Commerce Secretary Howard Lutnick as a new round of U.S. tariffs is set to take effect – Bloomberg. (Why you should care – like last April, the White House’s initial harsh rhetoric following the Supreme Court’s ruling will likely evolve into a more calibrated posture as the economic consequences come into clearer focus)

JPMorgan Chase expects investment banking fees and markets revenue to log strong growth in the first quarter, easing concerns that a recent equity market sell-off has hit deal pipelines – Reuters. (Why you should care – management said it expects mid-teens percentage investment banking and markets revenue growth in the current quarter)

President Donald Trump will use his State of the Union address to sell the public on the economy and unveil new measures meant to lower costs, as Republicans try to address voters’ concerns ahead of the midterm elections later this year – WSJ. (Why you should care – the speech later this evening will have to walk a fine line between a strong economy and bringing down inflation growth)

Anthropic is offering some current and former employees the ability to sell shares in the company at a valuation of about $350 billion; the company has lined up $5 billion to $6 billion for the share sale, but the final amount will depend on how many eligible Anthropic employees opt to sell – Bloomberg. (Why you should care – the buyers will be outside investors as Anthropic is actively laying the groundwork for a potential IPO, as evidenced by recent promotional activity around new products)

Economic Calendar:

Earnings: AMT, BABA, CEG, EOG, EXPD, FIS, FSLR, HD, HPQ, KDP, MELI, WDAY

France – Business Survey for February (2:45 a.m.)

Fed’s Goolsbee (Chicago, Non‑voter) Speaks (8 a.m.)

U.S. – ADP Employment Change Weekly (8:15 a.m.)

Fed’s Collins (Boston, Non‑voter) Speaks (9 a.m.)

Fed’s Bostic (Atlanta, Non‑voter) Speaks (9 a.m.)

U.S. – FHFA House Price Index for December (9 a.m.)

U.S. – S&P/Case‑Shiller CoreLogic Home Price Index for December (9 a.m.)

Fed’s Waller (Board Member, Voter) Speaks (9:10 a.m.)

Fed’s Cook (Board Member, Voter) Speaks (9:35 a.m.)

U.S. – Conference Board Consumer Confidence for February (10 a.m.)

U.S. – Richmond Manufacturing Index for February (10 a.m.)

U.S. – Wholesale Inventories for December (10 a.m.)

Treasury Auctions $90 Billion in 6-Week Bills (11:30 a.m.)

Treasury Auctions $69 Billion in 2-Year Notes (1 p.m.)

Fed’s Barkin (Richmond, Non‑voter) Speaks (3:15 p.m.)

Fed’s Collins (Boston, Non‑voter) Speaks (3:20 p.m.)

U.S. - American Petroleum Institute Crude Oil Inventory Data (4:30 p.m.)

U.S. – President Trump Speaks (9 p.m.)