Board of Governors of the Federal Reserve System

Recent Economic and Financial Developments

Monetary Policy Report submitted to the Congress on February 7, 2025, pursuant to section 2B of the Federal Reserve Act

Domestic Developments

Inflation eased a little further last year

After stepping down notably in 2023, inflation moderated a little further last year, although it remains somewhat elevated. The price index for personal consumption expenditures (PCE) rose 2.6 percent over the 12 months ending in December, down slightly from its 2.7 percent pace the previous year and well below its peak of 7.2 percent in mid-2022. Thus, inflation has moved closer to—although still somewhat above—the Federal Open Market Committee's (FOMC) longer-run objective of 2 percent (figure 1). Progress on disinflation last year was bumpy, with both total PCE prices and core PCE prices—which exclude often-volatile food and energy prices and are generally considered a better guide to the future of inflation—showing firmer monthly price increases over the first quarter of last year and more moderate price gains thereafter. For 2024 as a whole, core PCE prices rose 2.8 percent—a little less than the 3.0 percent gain over the previous year. However, some alternative measures that attempt to reduce the influence of idiosyncratic price movements showed more marked disinflation. For example, the trimmed mean measure of PCE prices constructed by the Federal Reserve Bank of Dallas increased 2.8 percent over the 12 months ending in December, a noticeable step-down from its 3.3 percent increase in 2023.

Consumer energy prices declined last year, while food prices increased modestly

PCE energy prices fell a modest 1.1 percent over the 12 months ending in December, as oil prices moved a little lower over 2024 (figure 2, left panel). The decline in oil prices was partially due to tepid oil demand from China and rising production in the U.S. and other non-OPEC (Organization of the Petroleum Exporting Countries) members; the effect of these factors more than offset upward price pressure from sustained geopolitical tension, including conflicts in the Middle East (figure 3). More recently, however, oil prices increased amid colder-than-expected weather and news of stricter sanctions on Russian oil exports. Continuing geopolitical tensions remain an upside risk to energy prices.

PCE food prices increased a modest 1.6 percent last year, a second year of low increases following the much larger increases in 2021 and 2022. Since the middle of 2024, egg prices surged in response to bird flu-related supply disruptions, while price increases across other agricultural commodities have been more modest (figure 4).

Prices of both energy and food products are of particular importance for lower-income households, for whom such necessities account for a large share of expenditures. Reflecting the sharp increases seen in 2021 and 2022, these price indexes remain around 25 percent higher than before the pandemic.

Core goods prices have been declining slightly, close to pre-pandemic declines...

In assessing the outlook for inflation, it remains helpful to consider three separate components of core prices: core goods, housing services, and core nonhousing services (figure 2, right panel). Price changes for core goods appear to have nearly normalized, with core goods prices declining slightly last year at a pace that was just a little slower than the average annual decline that prevailed in the years before the pandemic. The movement toward pre-pandemic conditions for this category of inflation in part reflects the resolution of supply chain issues and other supply constraints that had boosted goods prices earlier, and supply–demand conditions in goods markets now appear to be relatively balanced. As one indication, the shares of respondents to the Quarterly Survey of Plant Capacity Utilization who cite insufficient labor or materials as reasons for operating below capacity have returned close to their pre-pandemic levels (figure 5). Core goods inflation received a small boost last year from price gains in nonfuel import prices, which rose 2.4 percent over the year (figure 6).

...while housing services price inflation moved lower last year but remains elevated...

Housing services price inflation continued moderating last year, with prices rising 4.7 percent over the 12 months ending in December, down from 6.3 percent in 2023 and 7.7 percent in 2022. Despite this moderation, housing services inflation remains notably above its pre-pandemic level. Housing services inflation tends to respond with a lag to movements in rents for new leases to new tenants ("market rents"), and as these market rents have largely returned to pre-pandemic rates of increase, housing services inflation will likely continue to move lower as well (figure 7).²

...and core nonhousing services price inflation has flattened out at a somewhat elevated level

Finally, prices for core nonhousing services—a broad group that includes services such as medical, travel and dining, and financial services—increased 3.5 percent last year, a bit above their increase in 2023 and their pre-pandemic pace. However, the lack of further progress in this category masks important heterogeneity within its components. For the "market-based" category of core services, which account for roughly three-fourths of core nonhousing services, prices increased 2.9 percent last year—similar to its pre-pandemic pace and slower than its 3.5 percent increase in 2023. Market-based core services include components such as food service and lodging that are more directly influenced by supply–demand conditions, so easing in the labor market has likely contributed to the ongoing deceleration in this category of prices. In contrast, price inflation for the "non-market-based" category, where prices are imputed and which includes some volatile categories such as portfolio management that tend to be heavily influenced by idiosyncratic factors, jumped last year.³

Measures of longer-term inflation expectations have been stable, while shorter-term expectations generally moved down a bit last year

A generally held view among economists is that inflation expectations influence actual inflation by affecting wage- and price-setting decisions. Measures of inflation expectations over a longer horizon from surveys of households (such as the University of Michigan Surveys of Consumers) and professional forecasters have remained broadly consistent with the FOMC's longer-run 2 percent inflation objective (figure 8). Over the past year, these measures have been little changed and within the range seen in the decade before the pandemic. For example, the median forecaster in the Survey of Professional Forecasters, conducted by the Federal Reserve Bank of Philadelphia, continued to expect inflation to average 2 percent over the five years beginning five years from now.

Similarly, market-based measures of longer-term inflation compensation, which are based on financial instruments linked to inflation such as Treasury Inflation-Protected Securities, are also broadly in line with readings seen in the years before the pandemic and consistent with PCE inflation returning to 2 percent (figure 9).

Survey-based inflation expectations over a shorter horizon—which tend to follow observed inflation more closely—rose along with inflation in 2020 and 2021 but then moved back down through the end of 2024. More recently, the median value for expected inflation over the next year from the University of Michigan survey moved up some in December and January. Even so, both this measure and a similar measure from the Federal Reserve Bank of New York's Survey of Consumer Expectations are in line with pre-pandemic levels.

The labor market remains solid...

The labor market remains in solid shape. At the end of the year, the unemployment rate was low relative to historical experience, the labor force participation rate (LFPR) among workers aged 25 to 54 remained above its high from the years just before the pandemic, and job vacancies were at a strong level. For the year, employment rose moderately, layoffs remained low, and wage gains were solid.

...with labor market conditions appearing to stabilize over the second half of last year after a period of easing

After gradually increasing over much of 2023, the unemployment rate rose somewhat further in the first half of last year, from 3.8 percent in December 2023 to 4.1 percent in June 2024. However, it was mostly unchanged thereafter, ending the year at 4.1 percent—still low by historical standards (figure 10). Among most age, educational attainment, sex, and racial and ethnic groups, unemployment rates moved up, on net, last year, but to still relatively low levels (figure 11). (The box "Employment and Earnings across Demographic Groups" provides further details.)

Similar to the unemployment rate, measures of job vacancies—which had been gradually moving lower since mid-2022—also appear to have stabilized over the second half of last year. For example, job openings as measured in the Job Openings and Labor Turnover Survey (JOLTS), as well as an alternative measure using job postings data from the large online job board Indeed, edged down, on net, over the first half of last year and flattened out more recently. In December, both measures were a bit above their 2019 average levels.⁴

Job gains eased some last year, slowing from a strong average monthly pace of 267,000 in the first quarter to a more moderate 159,000 average pace over the rest of the year (figure 12).⁵ Job growth remained relatively strong in health care and state and local governments (where employment levels have been normalizing toward pre-pandemic trends after earlier staffing shortages), but employment declined in manufacturing.

Much of the additional easing in labor demand last year manifested as a slowdown in hiring rather than an increase in layoffs. Indeed, many hiring indicators, such as the hiring rate from the JOLTS and the rate at which unemployed individuals became employed each month from the Current Population Survey, moved lower last year. In contrast, layoffs indicators, such as initial claims for unemployment insurance and the layoffs rate from JOLTS, were mostly little changed and have remained low (figure 13).

Increases in labor supply appear to have slowed

At the same time, the supply of labor—determined by both the LFPR (the share of the population either working or seeking work) and population growth—appears to have increased more slowly over the second half of last year, after substantial increases over the past several years.

After having rebounded notably from its pandemic lows, the LFPR has been little changed since mid-2023 and was 62.5 percent in December (figure 14). Although population aging has continued to put downward pressure on the LFPR, this influence has been offset by increasing participation among some age groups. In particular, the LFPR among those aged 25 to 54 has increased substantially over the past few years (especially among women) and, despite declining a bit, on net, over the second half of last year, has remained at a high level.

Regarding population growth, the Census Bureau now estimates that immigration increased strongly from 2022 through June 2024, contributing to strong annual population growth over this period.⁶ While official Census Bureau immigration estimates are unavailable after June, more recent indicators point to a sharp slowdown in immigration and population growth since the middle of last year.⁷

The labor market no longer appears especially tight

As labor demand has slowed further, labor demand and supply have continued to move into closer alignment. By many measures, the labor market appears somewhat less tight than just before the pandemic; for example, the gap between the number of total available jobs (measured by employed workers plus job openings) and the number of available workers (measured by the size of the labor force) averaged 0.8 million in the fourth quarter of last year—well below its 2022 peak of 6.0 million and somewhat below its 2019 average (figure 15). Additionally, the share of respondents to the Conference Board Consumer Confidence Survey who say that jobs are plentiful, and the monthly percentage of the workforce that has quit their job as measured in JOLTS (an indicator of the availability of attractive job prospects), are also somewhat below 2019 levels (but above their ranges that prevailed over much of the previous expansion). Similarly, the unemployment rate in December was about 1/2 percentage point higher than its 2019 average (but still low relative to its range over the past 50 years).

Labor productivity increased solidly in 2024

Labor productivity in the business sector increased 1.97 percent in 2024 (figure 16). Productivity growth has swung wildly since the onset of the pandemic, but looking through this volatility, average labor productivity since the fourth quarter of 2019 is estimated to have increased 1.8 percent, 0.3 percentage point faster than the average pace that prevailed over the previous expansion.⁸ (For some potential explanations for this faster productivity growth, see the box "Labor Productivity since the Start of the Pandemic.")

Wage growth has slowed but remains solid

As labor market tightness eased somewhat further last year, nominal wage growth has also continued to slow, although to a still-solid pace (figure 17). Total hourly compensation, as measured by the employment cost index (ECI), increased 3.6 percent over the 12 months ending in December and has gradually slowed from its peak increase of 5.5 percent in mid-2022. Other measures also slowed some last year, with the Federal Reserve Bank of Atlanta's Wage Growth Tracker (which reports the median 12-month wage growth of individuals responding to the Current Population Survey) slowing in line with the ECI and growth in average hourly earnings (a less comprehensive measure) slowing in the first half but flattening out over the second half.

Despite this slowing, wage growth remains somewhat above its 2019 pace. This contrasts with the normalization in other labor market tightness indicators cited earlier and might reflect persistence in the adjustment process of wages to earlier shocks as well as support from strong productivity growth. Nominal wage growth may still remain somewhat too high to be consistent with 2 percent inflation over time, although this depends in part on how persistent the recent strength in productivity proves to be.

With PCE prices having risen 2.6 percent last year, these wage measures suggest that most workers saw increases in the purchasing power of their wages in 2024. That said, the extent of these increases depends in part on workers' individual circumstances—because nominal wage changes vary significantly across industry and occupation and because households consume different baskets of goods than the one represented in the aggregate PCE price index. (For details on how real wage gains have differed across demographic groups, see the box "Employment and Earnings across Demographic Groups.")

Gross domestic product rose solidly last year

Real gross domestic product (GDP) is reported to have increased at a solid annual rate of 2.7 percent over the second half of last year, a little stronger than its pace over the first half (figure 18). GDP growth last year was importantly supported by strength in consumer spending. Meanwhile, business investment grew moderately, while activity in the housing market was lackluster. For the year, GDP increased 2.5 percent—somewhat slower than its 3.2 percent pace from 2023, primarily because of moderation in both state and local government spending and nonresidential structures investment (which surged in 2023 from booming construction of manufacturing facilities), and more of a drag from net exports (as imports grew faster than exports).

In contrast to GDP, manufacturing output was little changed last year. In part, weakness in manufacturing production reflects tight financing conditions, as manufacturing output was weaker, on average, in sectors that tend to be more responsive to interest rates. Moreover, recent growth in domestic goods spending has largely been accommodated by increased imports. Special factors also held down production in some key industries like aircraft, where a labor dispute held down output. In all, manufacturing output has been fairly flat in recent years and remains below its recent peak from 2018.

Consumer spending has been resilient despite some headwinds

Despite headwinds from high interest rates, consumer spending adjusted for inflation grew a strong 3.2 percent last year, a little above its pace in 2023 (figure 19). Consumer spending has been supported by a still-solid labor market, high levels of household wealth relative to income, and rising real wages—indeed, real disposable personal income increased at an average pace of 3.6 percent over the past two years. However, consumers continued to spend more of their income than was typical before the pandemic, and the saving rate—the difference between current income and spending, as a share of income—has remained somewhat below its pre-pandemic level for much of the past two years (figure 20). Consumers maintained this pace of spending in part by drawing down their stock of liquid assets (such as checking and savings accounts) that had accumulated to elevated levels during and after the pandemic and by relying more on credit. Even so, households' stock of liquid assets appears to have stabilized at a solid level somewhat above its pre-pandemic trend, suggesting that households, in the aggregate, may have a larger-than-usual buffer to weather economic shocks.

Consumer spending has been more robust than measures of consumer sentiment would suggest (figure 21). Although sentiment in the University of Michigan survey has improved notably since 2022, it remains well below its pre-pandemic level. A similar measure from the Conference Board also remains somewhat low—though stronger than the University of Michigan survey measure, as it puts more weight on labor market conditions.

Consumer financing conditions remain somewhat restrictive

Despite a tick down in interest rates over the second half of the year in many categories of consumer loans, consumer financing conditions have remained restrictive, reflecting still-high borrowing costs and tight bank lending standards. According to the October 2024 and January 2025 Senior Loan Officer Opinion Surveys on Bank Lending Practices (SLOOS), conducted by the Federal Reserve Board, over the second half of last year banks reported tightening lending standards further for credit cards but loosening them somewhat for auto loans, albeit from tight levels.⁹ For credit cards, the relatively tight consumer lending standards likely reflect, in part, delinquency rates that have remained somewhat elevated relative to the pre-pandemic period.

Even so, financing has generally remained available to support spending for most households, other than those with low credit scores, and consumer credit expanded moderately through the third quarter of last year (figure 22).

Residential investment increased modestly last year

After steep declines in 2022, residential investment turned around in the middle of 2023 and increased modestly, on net, last year, supported by solid income growth and mortgage rates—which moved down a bit through the fall of last year, although to levels still far above pre-pandemic mortgage rates (figure 23). More recently, however, mortgage rates have moved back up again.

The markets for new and existing homes have evolved differently over the past few years (figure 24). Existing home sales remain depressed, as many homeowners who purchased or refinanced homes when fixed mortgage rates were lower appear unwilling to move and take out a new mortgage with a much higher rate. Indeed, the majority of outstanding mortgages still have interest rates below 4 percent, well below the prevailing 30-year fixed interest rate of 7.0 percent at the end of January (figure 25).

In contrast, sales of new homes bounced back to pre-pandemic levels in early 2023 and remained around these levels throughout last year. The new home market has likely been supported by demand from buyers who are unable to find homes in the existing home market. The rebound in demand for new homes encouraged builders to increase housing construction, and starts for single-family housing generally maintained solid levels last year (figure 26). Reflecting some additional rebalancing in the housing market, in part from supply improvements, house prices increased moderately last year, well below the pace seen in 2021 and 2022 (figure 27).

Meanwhile, starts of multifamily units—which are predominantly rental units—continued to trend lower last year because of weaker rent growth, increasing vacancies, and as a large backlog of new units have entered the market following a wave of multifamily construction from 2021 through mid-2023.

Capital spending grew moderately last year

After increasing solidly in 2023, business investment spending rose moderately last year despite high interest rates, supported by strong sales growth and improving business sentiment (figure 28). The sources of strength in business investment have shifted over the past year. Investment in structures, which surged in 2023 largely from a boom in manufacturing construction (especially for factories that produce semiconductors or electric vehicle batteries), has flattened out, albeit at a high level. Meanwhile, growth in business investment in equipment and intellectual property (which includes software and research and development) has picked up a bit, in part as businesses have been outfitting new manufacturing structures and data centers with high-tech equipment, as well as from continued investment related to artificial intelligence technologies.

Business financing conditions remained somewhat restrictive, but credit remains generally available

While businesses have still faced somewhat restrictive financing conditions as interest rates have stayed elevated, credit has remained generally available to most nonfinancial corporations. Over the second half of last year, banks reported leaving lending standards for business loans basically unchanged, after tightening them since the middle of 2022. Issuance of corporate bonds remained solid across credit categories, although below the levels that prevailed at the start of the tightening cycle.

For small businesses, which are more reliant on bank financing than large businesses are, credit conditions were little changed over the second half of last year. Surveys indicate that credit supply for small businesses remained relatively tight, while interest rates on loans to small businesses decreased some late in the year but remained near the top of the range observed since 2008. Loan default rates and delinquency rates, which had risen since mid-2022, moved down somewhat starting in the fall but still stand above their pre-pandemic rates. Finally, loan originations trended down slowly since the summer but are in the range observed before the pandemic, suggesting that credit continues to be available for small businesses with sound financial positions.

Exports and imports grew moderately in the second half of 2024

After lackluster growth in the first half of last year, real exports of goods and services picked up in the second half, led by exports of capital goods (figure 29). Meanwhile, real imports were robust throughout much of the year, supported by imports of high-tech capital goods. Combined, net exports subtracted 0.2 percentage point from U.S. GDP growth in the second half and subtracted 0.5 percentage point from overall 2024 GDP growth. The current account deficit as a share of GDP widened somewhat in the third quarter to roughly twice as wide as it was before the pandemic.

Federal fiscal policy actions provided a modest boost to GDP growth last year

Last year, federal purchases grew moderately, and some policies enacted after the pandemic continued to boost private investment and consumption. This support to economic activity was offset somewhat by the fading effects of earlier pandemic-related fiscal policy support. All told, the contribution of discretionary changes in federal fiscal policy was a modest boost to real GDP growth in 2024.

The budget deficit and federal debt remain elevated

After surging to about 15 percent of GDP in fiscal year 2020, the federal budget deficit—the difference between federal expenditures and receipts—declined through fiscal 2022 as the imprint of the pandemic faded, but it has been fairly flat since then (figure 30). In fiscal 2024, the budget deficit was 6.4 percent of GDP—notably larger than in the years before the pandemic—as noninterest outlays continued to outpace receipts and as the cost of debt service increased as a result of higher interest rates and a higher level of debt.

As a result of the fiscal support enacted early in the pandemic, federal debt held by the public jumped during the pandemic, reaching nearly 100 percent of GDP in early 2021—the highest debt-to-GDP ratio since 1946—and has only edged lower since then (figure 31). The debt-to-GDP ratio has been about flat since then, as the large primary deficits have occurred along with strong nominal GDP growth, but the Congressional Budget Office projects that debt-to-GDP will resume rising in the coming years as deficits remain elevated.

The fiscal position of most state and local governments remains in good shape, as tax revenue growth has normalized...

Federal policymakers provided a historically high level of fiscal support to state and local governments during the pandemic, which—together with robust state tax collections in 2021 and 2022—left the sector in a strong budget position overall (figure 32). After falling somewhat in 2023, state tax revenues grew modestly in 2024, and taxes as a percentage of GDP remain somewhat above historical norms. According to the National Association of State Budget Officers, states' total balances—that is, including rainy day fund balances and previous-year surplus funds—declined in 2024 from their all-time high in 2023 but remained well above pre-pandemic levels. At the local level, overall property tax receipts rose at a solid pace in 2024, and the typically long lags between changes in the market value of real estate and changes in taxable assessments suggest that—given past house price appreciation—property tax revenues will continue to rise going forward.

...contributing to above-average growth in employment and construction spending last year

Against the backdrop of continued strong budget positions, state and local government employment has moved up sharply over the past two years, after hiring and retention difficulties earlier in the pandemic faded, in part because wages have become more competitive with those in other sectors (figure 33). As employment has approached its pre-pandemic trend, growth slowed somewhat last year, although to a still-strong pace. Similarly, real construction outlays—which grew at a historically high pace in 2023 owing to support from federal grants and easing bottlenecks—increased last year at a more moderate (though still-strong) pace as support from these factors faded.

Financial Developments

The expected level of the federal funds rate over the next year shifted up notably...

Market-based measures of the expected path of the federal funds rate declined over the summer and early fall as the Federal Reserve eased monetary policy beginning at its September meeting. Subsequently, these measures moved up in the fourth quarter as market participants scaled back their expectations of the extent of further easing. On net, the market-implied path for the federal funds rate in 2025 is little changed since last July, and the path for 2026 is notably higher (figure 34). Financial market prices now imply that the federal funds rate will decline a further 40 basis points from current levels to 3.9 percent by year-end 2025 and remain near that level through the end of 2026. Consistent with current market prices, respondents to the January Blue Chip Financial Forecasts survey expected the federal funds rate to average 3.8 percent in the fourth quarter of 2025.

...and yields on long-term U.S. nominal Treasury securities are higher on net

While short-term Treasury yields declined somewhat, on net, since last July, yields on long-term nominal Treasury securities increased markedly on balance. After declining from early summer to mid-September to a level just above 3.6 percent, the 10-year Treasury yield rose notably, reaching a level of 4.6 percent by early February (figure 35). The rise in long-term nominal yields since mid-September largely reflected an increase in real yields, as measured by yields on Treasury Inflation-Protected Securities.

Yields on other long-term debt were little changed on net

Amid the easing of monetary policy and improved market sentiment since September, spreads on corporate bonds over comparable-maturity Treasury securities narrowed, particularly for speculative-grade bonds, and are now very low relative to their respective historical distributions. As the decline in spreads largely offset the increase in Treasury yields, corporate bond yields were little changed, on net, across credit categories and remained elevated (figure 36). Similarly, municipal bond spreads over comparable-maturity Treasury securities narrowed somewhat, on net, and stand near the bottom of the historical distribution. Meanwhile, municipal bond yields increased slightly since July. Yields on agency mortgage-backed securities (MBS)—an important factor for home mortgage interest rates—were little changed, on net, and currently stand at similar levels to those observed in June (figure 37). The MBS spreads narrowed notably but remained elevated by historical standards, at least partly due to high interest rate volatility, which increases prepayment risk and reduces the value of holding MBS.

Broad equity price indexes increased further

Amid elevated expectations of long-term earnings growth and broad-based optimism about the corporate outlook, the S&P 500 index increased further since June (figure 38). Similarly, equity prices for small market capitalization firms rose during this period. Bank equity prices increased during the second half of the year. One-month option-implied volatility on the S&P 500 index—the VIX—increased moderately since July amid higher uncertainty about the strength of the economy and the corresponding monetary policy path (figure 39). Currently, the level of the VIX is below the median of its historical distribution since 1990. (For a discussion of financial stability issues, see the box "Developments Related to Financial Stability.")

Major asset markets functioned in an orderly manner, but liquidity remained low

Treasury securities market functioning continued to be orderly, but a number of indicators suggest that liquidity remained low by historical standards. The persistence of low liquidity is broadly in line with the continued high level of interest rate volatility. Liquidity in equity markets continued to be low, at levels comparable with those observed last July. Meanwhile, corporate and municipal bond markets continued to function well amid stable liquidity and trading conditions.

Short-term funding market conditions remained stable

Conditions in overnight bank funding and repurchase agreement markets continued to be stable. The reduction in the target range for the federal funds rate in the September, November, and December FOMC meetings fully passed through to overnight money market rates. Since June, the effective federal funds rate has remained 7 basis points below the interest rate on reserve balances. The Secured Overnight Financing Rate has been slightly above the offering rate on the overnight reverse repurchase agreement (ON RRP) facility, except for short-lived periods of upward pressure on quarter-ends. Take-up at the ON RRP facility continued to decline amid an increase in net Treasury bill issuance and more favorable rates on private investments.

The implementation of new rules for institutional prime money market funds (MMFs) in October by the SEC passed in an orderly manner. In anticipation of the rules, there were multiple conversions from prime to government MMFs and closures of prime MMFs. Assets under management of MMFs reached historical highs in January as MMFs continued to offer favorable yields relative to bank deposits. Meanwhile, MMFs extended the maturity profile of their portfolios somewhat, on net, in the second half of 2024.

Bank credit continued to decelerate

Banks' core loan holdings continued to decelerate in the second half of 2024, growing at a 1.3 percent annualized rate, down from 1.9 percent during the first half of last year (figure 40). The subdued loan growth likely reflects still-elevated interest rates and tight lending standards. Delinquency rates remained relatively stable in the second half of 2024 following several quarters of deterioration. Even so, delinquencies for commercial real estate loans and credit cards remained elevated relative to the pre-pandemic period. In contrast, delinquency rates for commercial and industrial loans remained in line with their pre-pandemic levels. Measures of bank profitability edged down during the second half of last year amid a decline in net interest margins and remain below the levels that prevailed before the pandemic (figure 41).

International Developments

Foreign economic growth has remained modest in the second half of 2024

Foreign growth remained modest in the second half of last year, as the cumulative effects of restrictive monetary policy became more pronounced, curbing both private investment and consumer spending. Additionally, in Europe, energy-intensive sectors continued to grapple with elevated energy costs that resulted from Russia's war on Ukraine. By contrast, growth in Asian economies stepped up somewhat in the second half of the year, bolstered by strong export activity in the high-tech sector associated with robust U.S. artificial intelligence and data center demand. In China, growth was also supported by a slew of government stimulus measures, including monetary easing, support for the property sector and stock market, and a program to boost consumer purchases of automobiles and large appliances. These economic stimulus measures have been enacted both to stabilize the property market, which has experienced large declines in activity and prices in recent years, and to restore confidence in the broader economy.

Inflation abroad slowed but remains uneven across economies

After mostly moving sideways in the first half of last year, foreign headline inflation slowed in the second half, largely driven by declines in core inflation (figures 42 and 43). However, progress on inflation reduction remains uneven across economies and sectors, with services inflation and wage growth still running above levels consistent with central banks' inflation objectives in several economies. China stood out with near-zero inflation, reflecting weak domestic demand and falling housing prices despite government stimulus measures. Global risks to inflation include upside risk from potential disruptions to energy supplies driven by geopolitical events and downside risk from the possibility that deflationary forces in China could become entrenched.

Many foreign central banks continued to ease monetary policy

Many foreign central banks, including the European Central Bank and the Bank of Canada as well as several central banks in Latin America and Southeast Asia, continued to cut policy rates since mid-2024, citing declining inflationary pressures, easing labor markets, and concerns about economic growth. Policymakers generally emphasized that they are following a data-dependent approach and underscored the importance of maintaining vigilance amid persistent geopolitical risks as well as still-elevated services inflation and wage pressures in some economies.

In contrast, the Bank of Japan raised its policy rates last summer and again this January and has continued to emphasize its commitment to achieving its inflation target after more than two decades of low-inflation outcomes. Brazil was also a notable exception, as a resurgence of inflation amid tight labor markets and large depreciation of the currency has prompted the Central Bank of Brazil to raise its policy rates forcefully since early September and to signal that further hiking is likely.

Financial conditions abroad are little changed on balance...

Since mid-2024, short-term sovereign yields declined notably in many advanced foreign economies (AFEs) as many AFE central banks cut policy rates. By contrast, short-term yields rose in Japan, where market-based measures of policy expectations suggest further policy rate hikes by the Bank of Japan in 2025. Meanwhile, AFE longer-term sovereign yields rose moderately in some countries, with declines in expected policy rates being more than offset by increases in term premiums on market expectations of large bond issuance due to persistently large government deficits (figure 44). Relatedly, most AFE equity indexes were moderately higher, on net, since mid-2024.

Chinese equity prices increased sharply in late September, and China-focused investment funds recorded large inflows in response to announcements by Chinese authorities of economic stimulus measures and policies to support equity markets. These movements were later partially reversed, however, as investors expressed disappointment at the size and scope of the stimulus when details of the measures became clearer. More broadly, while aggregate emerging market economy (EME) funds recorded strong inflows last September, these turned to large outflows in the fourth quarter as investors reacted to the deterioration in the economic outlook for China, rising U.S. longer-term interest rates, and the prospect of new U.S. tariffs on EME exports to the U.S. (figure 45). Nevertheless, EME sovereign spreads narrowed significantly amid a broad narrowing in dollar-denominated credit spreads.

...and the exchange value of the dollar has increased significantly

Since mid-2024, the broad dollar index—a measure of the exchange value of the dollar against a trade-weighted basket of foreign currencies—increased significantly, on net, continuing its notable rise seen in the first half of 2024 and reaching its highest level in decades (figure 46). The dollar index was, however, somewhat volatile since mid-2024; it decreased initially as U.S. yields declined in the third quarter of 2024, before increasing steadily afterward. Market participants attributed the recent increase in the dollar index to widening gaps of U.S. interest rates over those of major AFEs, the relative strength of the U.S. economy, and political and fiscal developments in some foreign economies. Some market participants also pointed to potential increases in U.S. tariffs on imports as a factor pushing the dollar higher in recent months.

Footnotes