- Fixed Income Analyst
United States, Institutional
Change
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US Federal Reserve (Fed) cuts more than expected, sees balanced risks
The Federal Open Market Committee (FOMC) cut its target policy rate range by 50 basis points (bps) on September 18, with more than 40 bps having been priced into the market before the meeting. There was one dissenter, Fed governor Michelle Bowman, who preferred a cut of 25 bps. Fed Chair Jerome Powell stated that despite the large cut (the first of any size in four years), the FOMC believes that “the US economy is strong.”
In its statement, the FOMC characterized risks to its inflation and employment goals as “roughly in balance.” Other changes to the statement from the prior meeting seemed intended to reiterate that message. The language regarding the labor market was downgraded to say that job gains have “slowed” rather than “moderated,” and new text noted that the Fed is strongly committed to supporting maximum employment, in addition to returning inflation to target. New language also indicated that the FOMC has gained “greater confidence inflation is moving sustainably toward 2%.”
Updated projections indicate more cuts to come
Median projections for the target range for policy rates outlined in the central bank’s Summary of Economic Projections (the “dots” on the widely watched dot plot) came down by 70 bps for both 2024 and 2025, to 4.4% and 3.4%, respectively. The longer-run dot inched up to 2.9%, but this seems more likely to be a product of material dispersion in these forecasts and changes in the FOMC’s composition, rather than a significant signal.
The Fed’s economic forecasts suggest continued growth amid a backdrop of higher unemployment and lower inflation. The median forecast for real GDP growth is 2% for the calendar years 2024 to 2027, generally little changed from June’s forecasts. However, median forecasts for the unemployment rate moved up for the next two years, while inflation forecasts fell.
Powell voices confidence about the economic outlook
Chair Powell’s tone during the press conference was best summarized by his final comment: “I don’t see anything in the economy that suggests the probability of a downturn is elevated.” He repeatedly mentioned that the large cut was intended to preserve economic strength, not respond to economic weakness. Powell largely dismissed concerns about potential acceleration in unemployment, noting that the labor market is “solid” and “close to maximum employment.” When asked about stickiness in shelter inflation, he suggested that the primary driver of housing costs is a supply imbalance, and that despite the lag, the direction of travel in shelter inflation was clearly down.
Implications for investors: The Fed is fickle; focus on the data
Despite the larger-than-expected rate cut, Treasury yields across the curve had moved higher by the end of Powell’s press conference, indicating that some market participants had expected the dots to forecast more cuts. Powell’s optimism may also have supported the price action, but the Fed’s stance has changed over the last few months. In July, the Fed maintained its policy rates; yesterday, it cut them more than expected. Since the June meeting, the Fed’s year-end projection for the target range declined by 70 bps, while its projection for the unemployment rate increased by 40 bps.
While the Fed’s assessment of the economy is important, they are imperfect forecasters. History suggests that the risks to the housing and labor markets are more material than Powell’s tone suggests. As always, we believe investors should focus on the data, not the Fed Chair’s read of it.
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The real issue on rate cuts? Keep your eyes on the dot (plot)
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Brij Khurana