Center for Economic Analysis

National Conditions and Projections

The Fed Reserve, or Fed, has the dual mandate of keeping both inflation and unemployment low, but often those mandates are at odds with the other. That is, reducing inflation often requires slowing the economy, which reduces employment.

Since the Pandemic, inflation has been a persistent challenge for the Federal Reserve. The graph below shows two key measures of inflation, the CPI for all goods and services and the CPI for all items, less the volatile food and energy components. We see that preceding the Pandemic in 2020, both measures of inflation hovered around two percent – a value targeted by the Fed. Since then, inflation has been measurably higher than the Fed’s target rate.

The Fed moderates inflation by signaling its intent to restrict or ease the supply of money. Easy money is signaled by charging lower interest rates charged to banks borrowing from the Fed. This rate is called the Discount Window Primary Credit Rate. Easy money promotes economic growth. Alternatively, if the Fed seeks to slow inflation, it will signal money tightening by charging borrowing banks a higher rate. This discourages money creation and slows economic growth. The graph below shows recent Fed discount window rates and contrasts that with the average 30-year fixed mortgage to show how it effects consumers’ ability to borrow money.

Countering inflation is unemployment. While the national unemployment rate is off the lows experienced in 2023, the current unemployment rate remains low in comparison to pre-pandemic years. Despite the low unemployment rates, the actual number of jobs is lower than what most employers desire. This is because the Pandemic encouraged many late career workers to retire early, reducing the number of people participating in the workforce. Other factors include a wide swath of discouraged, prime work-aged males, who have left the workforce discouraged at the lack of manufacturing job opportunities. Other factors contribute to low participation and underemployment, including the childcare constraint to workforce participation. While young families have been vocal about challenges to juggling childcare support and employment since at least the 1980s, the Pandemic brought awareness of these constraints to a whole new level, with increasing number of young mothers with college degrees reportedly leaving the labor force because they cannot find sufficient childcare services.

Components of the Economy

Economists have many ways in which they slice and dice the economy. One way is by four components of spending:

Each component of expenditures encases distinct factors that affect the overall economy, here measured as Gross Domestic Product (GDP), which is the measure of the total value of all final goods and services produced in the economy.

Consumers (PCE)

Personal Consumption Expenditures (PCE) represents all spending by households on goods and services—everything from cars and food to haircuts—and is the largest component of GDP. Following the Pandemic, consumer spending has been the primary driver of economic growth. Initially fueled by stimulus checks, consumers have since sustained their spending by incurring significant debt.

This sustained spending has pushed consumer debt to an estimated $18.4 trillion in the second quarter of 2025. This staggering total includes all sources of household debt, such as mortgages, student loans, car loans, and credit card balances, and amounts to approximately $54,000 for every person in the U.S. Despite this record nominal figure, when adjusted for price changes (in real terms), the current debt level is notably lower—about two-thirds of the debt burden leading up to the housing crisis, where borrowing was often leveraged against inflated home values.

Debt vs. Durable Goods Demand

Despite the high debt levels, consumer expenditures continue to grow. Even after the initial Pandemic-era surge in demand for appliances and home goods, the demand for durable goods has rebounded in 2025. This recent increase is likely driven by consumers trying to purchase big-ticket items before new tariffs potentially drive up prices.

The Path Forward

While there is room for further consumer spending growth, significant headwinds exist. Rising consumer debt may constrain future purchases, though relatively high wage growth could help extend the current buying trends in the near term. Eventually, however, consumers will have to confront their increasing debt burden. Complicating this outlook is low consumer sentiment, which typically discourages spending and encourages saving or paying down debt. Which of these competing forces will ultimately prevail remains to be seen.

Investment (I)

Investment (I) encompasses business spending on capital goods (like machinery), expenditures on new residential housing, and changes in inventories. Economists closely track investment because it often provides an early warning signal for the economy. When businesses are confident in sustained growth, they invest in new plants and equipment to meet expected consumer demand. Similarly, real estate developers increase new housing construction.

Inventory changes, however, have a more complex interpretation. A rise in inventories can signal that demand is weaker than production, likely leading firms to cut back production later. Conversely, it could also mean firms are proactively stocking up to meet anticipated future demand.

The Investment Spike and Drop

The "One Big Beautiful Bill Act," which made permanent the ability to depreciate certain capital expenditures for production-oriented assets, may be distorting the typical pattern of investment spending. This could explain the significant first-quarter spike in investment shown in the graph above. It is too early to definitively determine the cause of the subsequent second-quarter drop. It might simply be a mean reversion following the first-quarter surge, or it could be a market signal that businesses are beginning to pull back on investments.

Inventory Management

The next two graphs show the ratio of business inventories divided by sales, which indicates the relative level of inventory holdings. Businesses generally aim to keep some inventory buffer to guard against running out of stock (stockouts). For example, auto producers require inventory to offer consumers a wide range of vehicle features.

The first graph, showing overall business inventories, suggests that aside from the post-Pandemic lows, inventory levels are somewhat elevated. The downward trend since 2025 appears to reflect an orderly draw-down, which is more akin to a planned reduction than a hurried correction. This suggests that businesses are proactively planning for market conditions rather than merely reacting to them.

The second graph, depicting the auto inventory/sales ratio, implies that auto producers were slower to recover from the Pandemic shutdowns. However, the period of stability since 2024 suggests that they may have adopted a more just-in-time operating paradigm for delivering vehicles.

Government (G)

Government Consumption Expenditures (G) include all government spending on goods and services, such as infrastructure projects and defense. Importantly, this component does not include transfer payments like Social Security or stimulus checks (e.g., during Covid-19).

The graph below illustrates the trajectory of government consumption expenditures, showing a distinct break and sustained growth since 2016. Despite this growth in absolute terms, the government’s share of GDP has been on a steady decline since the 1970s (second graph).

The Role of Deficits and Debt

It is critical to recognize that federal deficits result from the difference between total government outlays and revenues, not just from government consumption and investment expenditures and revenues. Government outlays include mandatory expenditures for social insurance, public assistance, and earned benefits like Social Security. This distinction allows the public debt to grow disproportionately from the government's share of GDP, which, in turn, results in ever-increasing debt servicing payments, as exhibited in the following graph. It appears that government outlays will continue to outstrip revenues, with the total debt having topped $38 trillion in October of 2025.

Net Exports

Net Exports (NX) is the difference between the total value of U.S. exports (X) and imports (M). It typically represents a small component of GDP.

When a U.S.-owned firm sells to foreign buyers (exports), wealth transfers to the U.S., increasing U.S. GDP. Conversely, when a U.S. buyer purchases from a foreign supplier (imports), wealth transfers from the U.S., decreasing U.S. GDP. This simple netting effect, however, masks vast sums of wealth being transferred to and from the U.S. economy.

Tariffs and Trade Policy

The current Administration seeks to discourage imports through tariffs, aiming to boost GDP growth by reducing this wealth "leakage." Economists, however, have mixed feelings about the effectiveness of such policies because they directly conflict with the core economic principles of specialization and trade.

The U.S. cannot be a specialist in all goods and services; other countries have inherent comparative advantages in producing certain key items. Economic theory holds that all parties are made better off by trading the goods and services each is relatively good at. This current trade experiment has historical precedent, most notably in the 1930s, from which most countries ultimately reverted to embracing free trade.

2026-2027 National Economic Projections

The national forecast calls for cautious optimism, but economic expansion will be heavily moderated by inflation.

Economic Projections:

• Recession Risk: The U.S. economy remains fundamentally strong, but risk is high due to recently enacted fiscal and regulatory policies. Working against growth are potential factors like escalated trade wars, reduced domestic capital formation, higher consumer prices, and Net Exports being reduced by retaliations against agricultural goods.
• Federal Reserve Action: Most economists predict a cautious easing of less than one percentage point, bringing the 2026 expected targeted Discount rate to 3.5%. This policy path is complicated by the fact that Jerome Powell will vacate the Federal Reserve in May 2026.
• Employment: Projections are for stable growth in national employment. Strong sectors include Education and Health Services and Leisure and Hospitality. Weaker segments include Information and Manufacturing.

October 29, 2025