Fed Rate Cut Uncertainty Looms: Powell Navigates Rising Pressure
With divisions within the rate-setting committee regarding its next move, Federal Reserve Chairman Jerome Powell is likely to temper investors' growing expectations for a September rate cut.
Revised data from recent jobs reports, showing weaker wage growth, coupled with inflation not rising as quickly as anticipated, have led market participants to believe that Powell can no longer delay cutting interest rates. Continued pressure from the White House and Treasury Secretary Janet Yellen has further exacerbated this situation.
The Fed has maintained stable interest rates this year, fearing higher inflation. According to Atlanta Fed data, the market currently sees a 65% chance of a 25 basis point rate cut in December, and a 15% chance of a 50 basis point rate cut.
However, experts suggest that Powell will likely try to cool these expectations. The Fed Chair doesn't want the market to think a rate cut is a foregone conclusion. Ethan Harris, former chief economist at Bank of America Securities, says that if the market fully prices in a rate cut before the September 16-17 FOMC meeting, it will be difficult for the central bank to decide to hold rates steady.
He adds that the Fed doesn't like to surprise markets.
Ellen Zentner, chief U.S. economic strategist at Morgan Stanley Wealth Management, says, "The most important thing to watch for now is... whether Fed officials push back against market expectations." Fed officials who do not support a September rate cut are also expected to speak publicly. "If they think the market is wrong, they will speak out, because guiding market expectations is one of their jobs," she adds.
All Eyes on Jackson Hole?
Harris believes Powell will use his speech at Jackson Hole to hint that a September rate cut is still uncertain. Powell is expected to speak at the central bank's annual summer symposium on August 22.
Jackson Hole's importance as a "quasi" rate-setting meeting for the Fed's rate committee is growing.
Nevertheless, Zentner doesn't think the Fed will ultimately make a decision contrary to market expectations. She believes the Fed will decide to cut interest rates by 25 basis points in September, with the only potential pushback being to rule out a half-percentage-point rate cut.
This week, Yellen publicly called on the Fed to cut interest rates by 50 basis points in September, as the start of a series of cuts that would ultimately bring the federal funds rate down by 150-175 basis points. The Fed's benchmark interest rate is currently in the 4.25%-4.5% range.
Robert Brusca, president of FAO Economics and a former New York Fed staffer, says the Treasury Secretary's comments are aimed at putting maximum pressure on Powell.
Harris believes the idea of a 50 basis point rate cut will continue to ferment. Republicans will argue that the Fed should cut rates by 50 basis points, just as officials did last September when they were concerned about the labor market.
But economists say there are vast differences between this year and last year, most notably the large increase in tariffs on imported goods.
Michael Gapen, chief U.S. economist at Morgan Stanley, says the 50 basis point rate cut option would only be put on the table if the Fed was worried the economy was heading for a recession.
Divergent Opinions
Harris says the days of the Fed speaking with one voice are over. He says the two Trump-appointed Fed governors, Waller and Bowman, who voted against a rate cut in July, have "broken the logjam." This means that whatever the Fed decides, there will be dissent.
Stephen Ricchiuto, chief U.S. economist at Mizuho Securities, says that right now, neither the hawks who support keeping rates steady nor the doves who support easing policy have a majority. Most Fed officials are in the middle ground.
The focus of the debate within the Fed is whether it makes sense to cut rates to support a weakening labor market. In normal times, the Fed might take this step, but hawks fear there is a significant risk of inflation surging.
Hawks don't believe the labor market is as weak as their colleagues think. Harris says, "I expect the debate between hawks and doves to be quite active before the September meeting, adding some uncertainty to a rate cut, and the hawks won't give in easily."
Harris suggests that this month's data will provide a reason for a 25 basis point rate cut.
Not only within the Fed, but also among economists on Wall Street, there is division. Bill Adams, chief economist at Comerica, believes the Fed will hold rates steady in September, while Matt Luzzetti, chief U.S. economist at Deutsche Bank, believes the Fed will stand pat until December. But both say it's a tough call.
Many economists say the final decision will depend on the August jobs report and the inflation data that is released before the Fed's next rate-setting meeting.
Beyond the Headlines: Exploring Broader Economic Factors
While the immediate focus is on the potential for a September rate cut, it's important to consider the broader economic landscape. Factors such as global economic growth, geopolitical risks, and the strength of the U.S. dollar also play significant roles in shaping the Fed's policy decisions. A slowdown in global growth, for example, could put downward pressure on U.S. inflation, potentially making a rate cut more appealing to the Fed. Similarly, escalating geopolitical tensions could increase uncertainty and prompt the Fed to adopt a more cautious approach. Monitoring these developments can provide a more comprehensive understanding of the forces influencing the Fed's actions.
Remember that economic forecasting is inherently uncertain, and predictions can change quickly based on new data. Staying informed and critically evaluating different perspectives is crucial for navigating the complex economic environment.
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