Economic Outlook for the Second Half of 2026: Inflation, the Federal Reserve, and Mortgage Rates

Last week offered the markets their first real glimpse of the “new Federal Reserve” under Chairman Kevin Warsh. Investors, economists, and political observers alike were watching closely for signs that the Fed might align itself with President Trump’s repeated calls for lower interest rates.

Instead, the Federal Open Market Committee chose to leave rates unchanged.
While the decision was widely expected, what surprised many was the Fed’s willingness to keep the possibility of a rate increase on the table later this year. That stance highlights the difficult position policymakers currently face. The White House is advocating for lower rates at a time when inflation has climbed to 4.2%, its highest level in three years. Yet reducing rates while inflation remains elevated is akin to trying to extinguish a fire with gasoline. It may feel proactive, but the outcome is rarely what anyone hopes for.

From a monetary policy perspective, the Fed’s caution is understandable. Inflation remains well above its long-run target, while unemployment has remained relatively stable. Under these conditions, the central bank has little incentive to begin easing policy prematurely. In fact, if labor market conditions strengthen further while inflation persists at current levels, the argument for additional tightening becomes considerably stronger.
This creates an unusual economic paradox. Normally, stronger employment is celebrated as an unequivocal positive. Today, however, every surprisingly strong jobs report may increase the probability of higher interest rates. It’s one of the few situations in economics where good news can immediately become bad news—and then somehow be spun as good news again on financial television.

So where does this leave mortgage rates???

The outlook is cautiously optimistic. I expect inflationary pressures to moderate over the next six months, aided in part by declining energy prices as geopolitical tensions in the Middle East continue to ease. If inflation trends lower, mortgage rates should gradually follow.

Earlier this year, mortgage rates briefly dipped below 6%, helping stimulate purchase activity during the first quarter. A return to rates beginning with a “5” later this year could once again unlock pent-up housing demand and improve affordability for many buyers.
That said, expectations should remain grounded. While rates below 6% appear achievable, forecasts calling for sustained mortgage rates in the mid-5% range remain optimistic. Economic forecasting is difficult enough without pretending the crystal ball actually works.

For now, the most likely scenario is one of gradual improvement rather than dramatic relief. Inflation appears poised to cool, mortgage rates may drift lower, and housing activity could strengthen modestly. But barring a significant economic slowdown, borrowers hoping for the ultra-low rates of years past may need to keep hoping a little longer.