Summary: Alternative Mid-Year Economic Forecast Scenarios

Ed Sullivan
Sep 19
6 min read

Market Update

Introduction

All forecasts contain risk that can originate from the data used, the process of calculations, the assumptions, or a combination of each element. Indeed, an infinite number of alternative scenarios to the Baseline scenario exists, and each materializes with even small changes in assumptions.

The risks surrounding these scenarios remain high. They center on assessments regarding underlying strength of the economy and the headwinds that face the near-term economy. The key assessments include:

1. the impact of administration policies on the economic fundamentals.

2. Federal Reserve monetary policy actions.

3. the strength and resiliency of consumer spending.

Data risks are also particularly important in this report. After the Baseline forecast was released, the Bureau of Labor Statistics (BLS) issued a massive revision regarding the labor market. According to the revision, 911,000 fewer jobs were created during March 2024 through March 2025. This suggests significantly greater weakness in the economy than perceived at the time of our Summer Forecast.

While the Baseline forecast remains unchanged, some adjustments have been made to the alternative scenarios given the new data. Inclusion of the new BLS data also impacts the probability of each scenario occurrence – with the odds favoring a more pessimistic outlook compared to Spring’s alternative forecasts.

The Baseline Scenario

The “Baseline” forecast is believed to be the most likely scenario. It reflects significant tariff-driven inflation during 2025, a slowdown in consumer spending, a weaker job market, and a Federal Reserve that is slow to cut interest rates.

For construction and cement activity, this translates into a continuation of the soft conditions that have characterized the first half of 2025. This period of malaise is expected to continue through much of the first half of 2026 - which translates into another significant decline in cement volume for 2025.

Recovery of the residential market requires significant declines in mortgage rates. In turn, a significant recovery will not materialize until mortgages rates retreat to the 5% to 5.5% level. This must materialize in the context of relatively healthy labor markets. Both ingredients are required and are expected to materialize by mid-2026.

The nonresidential sector is expected to be hampered by reduced net operating income (NOI) that accompanies a weakened economy. Vacancy rates are high. Leasing rates in many areas are discounted. In the context of the economy weakening, these conditions are expected to worsen. These adverse factors affecting the cyclical sectors of nonresidential construction activity (office, hotel, and retail) are expected to more than offset the positives associated with the building of data centers and onshoring activities. The recovery in nonresidential construction is expected to lag the recovery in residential.

Finally, weaker labor market conditions typically translate into weaker state and local revenue collections. In addition, federal funding programs are denominated in nominal dollars. High inflation erodes the potency of these programs. These factors suggest a saddle point for public construction during 2025 - 2026.

By mid-year 2026, economic conditions are expected to improve with the change in leadership and composition of the Federal Open Market Committee (FOMC). With Federal Reserve Chair Powell’s term ending in June, President Trump is expected to appoint a new chair as well as several Fed governors and presidents. The new Fed is expected to take a more dovish stance on inflation and will move aggressively to cut rates. Treasury Secretary Bessent has suggested the Federal Funds rate should be lowered 150 basis points (BP) to 175 BP below the current rate levels.

Deflationary pressures associated with a weaker economy could partially neutralize tariff-induced inflation, but inflation expectations are projected to remain elevated. While short-term interest rates are expected to decline rapidly as a result of the Fed’s actions, long-term rates with higher imbedded inflation premiums and federal debt pressures are expected to remain high. Unfortunately, private construction is influenced by long-term rates, not short-term rates.

This scenario implies that any improvement in construction that materializes immediately after the aggressive Federal Reserve short-term interest rate cuts may be muted during 2026. As inflation eases, so will inflation expectations and the premiums attached to long-term rates. While this begins to emerge during the second half of 2026, it should be more fully apparent in 2027.

Should economic conditions continue to improve during 2027 - 2030, each of the private construction sectors contributing to cement consumption are also expected to improve. On the public side, the Infrastructure Investment and Jobs Act (IIJA) is expected to be replaced by a new program that compensates for inflation erosion.

Pessimistic Scenario

The Pessimistic scenario reflects greater adverse impact on the economy arising from tariffs and aggressive immigration policies. Not much tariff-induced inflation has shown up in the data thus far. However, the lag between the imposition of the tariffs and its impact on prices may last a bit longer than many expect. This view suggests that pre-tariff strategies by importers (such as buy-in-advance of the tax) may delay inflation arrival. According to this scenario, once the inventories are drawn down, more significant inflation impacts could materialize. Tariff-induced inflation does not show up until the fourth quarter of 2025.

The Pessimistic Scenario also assumes that the Federal Reserve remains more concerned about risks for inflation than unemployment. After cutting the federal funds rate by 25 basis points in September 2025, the Fed should encounter clear evidence that inflation has risen considerably. No further rate cuts materialize during the remainder of Chair Powell’s tenure. This position is maintained even in the face of growing evidence that the economy is weakening.

Labor markets turn negative as net economy-wide job losses materialize, and the unemployment rate increases throughout the first half of 2026. Inflationary pressures remain high even in the face of growing weakness in the economy.

By June 2026, a new Fed chairman will lead the FOMC meeting. While the new chair and FOMC committee are expected to strive for competent monetary policy, but they are also expected to appease President Trump. Monetary policy eases dramatically even in the face of clear inflationary pressures. These policies aggravate already serious inflationary pressures.

By 2027, serious stagflation is in place. Inflation runs hot. Job losses mount. Turmoil grips the Fed, and a second policy pivot materializes as the Fed is forced to raise rates in 2027. Altogether, the downturn lasts the better part of a year. Unemployment tops 5%. Credit conditions tighten for all borrowers including consumers, potential homeowners, and real estate investors.

The U.S. economic slowdown hinders global economic growth. This is supplemented by ongoing weakness in China’s economy. In addition, the dollar’s prestige declines and loses some of its status as the world’s reserve currency. At the same time, these factors add to economic weakness in the U.S. and reduces the rate of decline in inflation and interest rates.

While lower mortgage rates eventually arrive, a softer labor market moderates the strength of the residential markets recovery. Multifamily construction is characterized by rising vacancy rates and reduced leasing rates, while net operating income declines. Nonresidential construction declines significantly. Commercial real estate defaults materialize – deepening the nonresidential downturn and prolonging its recovery. Finally, weak labor market conditions reduce revenue collections at state and local governments. Larger Federal deficits materialize with the economic downturn. In this context, the replacement IIJA program is considerably more modest than the Baseline assumptions.

Optimistic Scenario

In the Optimistic Scenario, tariff-induced inflation remains muted – contrary to expectations of elevated levels of inflation. Then, as the economy initially slows, consumer and business trust in U.S. policy is restored and sentiment swells. With the tariff’s inflationary threat reduced, the Federal Reserve could cut interest rates 50 BP in September - and another 25 BP in each of the subsequent FOMC meetings in 2025. The policy rate cuts and lower inflation premiums prompt declines in interest rates.

In addition, a new Fed chairman may work to appease President Trump. This suggests the potential of monetary policy easing dramatically. Unlike the Pessimistic Scenario, the easing takes place in the absence of strong inflationary pressures. The aggressive 2025 rate cuts are followed by another round of aggressive cuts – pushing the Federal Funds rate toward 2%.

Stronger job and income growth, along with the mortgage rate dropping below 6% by early 2026, supports a stronger near-term single family construction outlook. With job-market strength weakening, vacancy rates ease, and rent growth are stronger compared to the Baseline Scenario. Multifamily starts improve compared to Baseline levels.

The nonresidential construction recovery accelerates under the Optimistic Scenario. With job and income gains, commerce increases and leads to stronger business earnings. Net operating conditions for commercial real estate are stronger. Access to credit is easier under this scenario compared to the Baseline Scenario. The commercial credit crisis is avoided in the context of stronger economic conditions.

Under this scenario, job market strength translates into increased state revenue collections. States’ fiscal conditions improve. State construction spending increases. In addition, the fiscal strength reduces the likelihood of state sterilization. Under this scenario, state sterilization of IIJA programs is reduced from 20% to 15%. A new robust replacement of IIJA materializes – and prompts more support for public construction.

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