The Federal Reserve is edging closer to a critical juncture: the potential for an interest rate cut. Following the recent Federal Open Market Committee (FOMC) meeting, it’s evident that while the Fed isn’t ready to pull the trigger just yet, the landscape is shifting towards a reduction in rates. Traders and investors are closely monitoring the next steps, which remain shrouded in uncertainty.
During the post-meeting press conference, Fed Chair Jerome Powell emphasized that the Fed is nearing the point where reducing the policy rate could be appropriate. However, there are still a few key data points to navigate before a decision is made. “We’re getting closer to the point at which it will be appropriate to reduce our policy rate, but we’re not quite at that point yet,” Powell remarked.
The FOMC maintained the federal funds rate target at 5.25% to 5.5%, with unanimous agreement among officials. They noted that the risks to achieving the central bank’s dual mandate of price stability and maximum employment are now balanced. If inflation continues its downward trend and the job market normalizes, a quarter-point cut in the fed-funds rate by September appears highly likely. This sentiment is strongly reflected in the interest-rate futures markets, which are pricing in a cut with near-total certainty.
“A September cut is a done deal at this point, barring a notable deviation in the data,” stated PGIM Chief U.S. Economist Tom Porcelli. The focus now shifts to how the Fed will communicate future interest rate moves following the initial cut.
The Fed’s latest Summary of Economic Projections indicates a fed-funds rate target of 5.1% by the end of 2024, implying one quarter-point reduction this year. The projections then suggest a rate of 4.1% by the end of 2025 and 3.1% by the end of 2026, translating to a steady pace of rate cuts over the next two years towards a longer-run median forecast of 2.8%. This rate is considered neutral, neither restricting nor stimulating economic growth.
Porcelli posits a likely neutral rate in the 3% to 3.5% range, with interest-rate futures market pricing aligning the Fed within that range by the end of 2025, sooner than the Fed’s median projections. This discrepancy will likely fuel debates in the coming months.
Powell refrained from making definitive predictions for 2024 and beyond, highlighting the dependency on economic developments. “I can imagine the scenario in which there would be everything from zero cuts to several cuts [in 2024], depending on the way the economy evolves,” Powell commented.
The pathway to a potential September rate cut is clearer now than at any time since 2020, when the FOMC slashed rates to near zero amid the COVID-19 pandemic and ensuing recession. Key economic data releases over the next six weeks will be crucial, beginning with the July jobs report on Friday. Analysts anticipate an increase of 175,000 nonfarm payrolls, down from June’s 206,000 gain, with the unemployment rate expected to hold steady at 4.1%.
Powell downplayed the current labor market as a significant source of inflationary pressure. “I don’t think the labor market in its current state is a likely source of significant inflationary pressures,” he said, indicating a preference against further cooling.
For inflation metrics, the next important dates are August 14 and 30, when the July consumer price index (CPI) and personal consumption expenditures (PCE) price index will be released. Additionally, the August CPI data will be published on September 11, just ahead of the next FOMC meeting on September 17-18, though August PCE data won’t be available until September 27.
“The committee does not expect it will be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward 2%,” stated the policy release.
Consistent inflation data similar to that of May and June in the upcoming reports would bolster confidence and potentially kickstart the next phase of the Fed’s rate cycle. What follows will be the market’s next major focus and potential source of volatility.
Key Takeaways
- The Federal Reserve is nearing a potential interest rate cut, but several economic indicators must align first.
- Interest-rate futures markets are strongly pricing in a rate cut by September.
- The Fed’s projections suggest a gradual reduction in rates over the next two years.
- Upcoming job and inflation data will be critical in determining the Fed’s next moves.
Conclusion
With the Federal Reserve signaling a possible rate cut, traders and investors should brace for significant market shifts. The focus will be on upcoming economic data releases, which will either solidify or undermine the likelihood of a September rate cut. This period of anticipation offers both opportunities and risks, making vigilance and strategic positioning crucial for market participants.
