The fourth quarter closed a year defined by shifting policy signals and unexpectedly resilient markets. While fiscal negotiations, central bank actions, and uneven global growth shaped the macro backdrop, risk assets generally extended gains, closing out a volatile year on a constructive note. As the year ended, investors were left balancing strong performance against an increasingly complex policy environment.

U.S. Policy and the Economy in 4Q25

The U.S. government entered a partial shutdown in 4Q after Congress failed to pass a funding agreement, reinforcing concerns around fiscal discipline and policy uncertainty. The shutdown lasted 43 days, leaving hundreds of thousands of federal workers furloughed. Beyond its human and fiscal impact, the shutdown disrupted the release and reliability of key economic data, particularly from the Bureau of Labor Statistics, obscuring inflation and labor market signals that underpin Federal Reserve policy expectations. Attention now shifts to the January 30 funding deadline, where another lapse in funding could renew data gaps and further complicate the policy backdrop early in the new year.

The Federal Reserve extended its easing cycle during the quarter, cutting the Fed Funds rate by 25 basis points at both the October and December meetings and bringing the target range to 3.50%-3.75%, as officials grew increasingly concerned about labor market softening. Policymakers framed the back-to-back cuts as insurance against a slowing economy rather than a response to inflation dynamics, citing decelerating job creation and a gradual rise in the unemployment rate.

The December decision was marked by a 9–3 split, highlighting internal debate between members concerned about lingering inflation risks and those prioritizing support for labor-market conditions. Reflecting that tension, the updated “dot plot” showed a wide distribution and a slower pace of easing ahead, with one additional cut projected for 2026 and another in 2027. Separately, the Fed announced plans to resume Treasury bill purchases, for the first time since March 2022, emphasizing that the move reflects routine balance-sheet management rather than a shift in the stance of monetary policy.

The government shutdown distorted the normal flow of economic data during the quarter, resulting in delayed and incomplete releases. Available inflation data pointed to easing price pressures, with the November CPI report showing headline inflation at 2.7% year over year and core CPI at 2.6%, down from 3.0% for both measures in September. The October CPI release was not published, while the Bureau of Economic Analysis postponed its October and November PCE reports. Labor market data showed clearer signs of cooling, with payrolls revised lower for August and September and the unemployment rate drifting higher to 4.6%, reinforcing the Fed’s growing focus on employment risks.

Economic activity remained resilient but uneven late in the year. The 3Q GDP report, released in December, showed strong growth of 4.3%, supported by robust consumer spending. However, forecasts for 4Q point to more moderate expansion (Atlanta Fed GDPNow: 2.7%), as ISM manufacturing PMI and retail sales both softened during the quarter. The Conference Board’s Consumer Confidence Index also declined, suggesting households are becoming more cautious as labor market conditions cool and financial conditions remain restrictive.

Global Macroeconomics

Outside the U.S., economic momentum and policy responses varied meaningfully across regions in 4Q. Central banks remained on divergent paths, and growth outcomes reflected a mix of cyclical improvement and renewed headwinds.

The European Central Bank held policy rates steady as disinflation progressed, maintaining a restrictive stance to ensure inflation stabilizes at its 2% target over the medium term. European Union annual inflation was 2.4% in November 2025, down from 2.5% in October. The euro zone ended 2025 with its strongest quarterly growth in more than two years, as resilient services activity offset continued weakness in manufacturing, according to PMI data. Fiscal policy also turned incrementally more supportive, with increased infrastructure and defense spending providing a modest tailwind. In the U.K., the Bank of England cut rates by 25 basis points in December as inflation eased, though policymakers emphasized a cautious approach given lingering price pressures and uncertainty around the growth outlook.

Japan continued its gradual transition away from ultra-easy monetary policy, with the Bank of Japan delivering another modest rate increase of 25 basis points to 0.75%, the highest level in 30 years, while reiterating that sustained, demand-driven inflation remains a prerequisite for further normalization. Recent data showed Japan’s economy contracted in 3Q, its first decline in six quarters. Political developments added a new dimension to the policy backdrop following October’s election of Prime Minister Sanae Takaichi, whose economic agenda emphasizes fiscal support alongside structural reform. Key priorities include increased infrastructure and defense spending, as well as targeted investment in strategic growth areas such as semiconductors, artificial intelligence, and batteries.

China’s economy grew 4.8% year over year in 3Q, supported by resilient exports and keeping growth near the government’s “~5%” objective, though marking the weakest pace in a year. More recent data pointed to renewed softness, with November retail sales and industrial production falling short of expectations amid weak domestic demand, a soft labor market, and continued contraction in the property sector. Slowing fixed-asset investment and persistent weakness in consumption contributed to expectations that full-year growth would fall short of official targets, prompting policymakers to announce targeted fiscal measures aimed at stabilizing activity and supporting domestic demand.

Closing Thoughts

2025 will likely be remembered as a year defined by constant crosscurrents. Markets absorbed a steady flow of policy shifts, tariff announcements, monetary easing, AI enthusiasm, geopolitical conflict, fiscal strain, and even a government shutdown that disrupted key economic data. Despite these challenges, markets remained resilient and delivered strong returns across most asset classes. As 2026 begins, uncertainty remains elevated, and Callan encourages investors to maintain a long-term perspective and a prudent asset allocation with appropriate levels of diversification.