The Federal Reserve’s September 2024 FOMC meeting resulted in a 50 basis point rate cut, marking a pivotal shift in monetary policy as inflation has significantly cooled and the labor market softened. Here’s a breakdown of key takeaways from the FOMC projections and Chair Powell’s press conference:
Key Highlights:
- Interest Rate Cut: The federal funds rate was lowered to a range of 4.75% to 5.00%. This is a reflection of the Fed’s confidence that inflation is moderating toward the target of 2% and that the labor market can maintain strength without excessive policy restriction.
- Inflation:
- Headline PCE inflation is expected to fall to 2.3% in 2024 and further to 2.1% in 2025, nearing the Fed’s long-term target of 2%. Core inflation, which excludes volatile food and energy prices, is also expected to converge to 2% by 2026.
- Current inflation stands at 2.2%, a significant drop from its 2022 highs, attributed to improved supply chain dynamics and tempered demand.
- Economic Growth:
- The Fed projects real GDP growth at 2.0% for 2024, consistent through 2026. This growth is moderate but steady, and although the economy faces headwinds, consumer spending and business investment remain resilient.
- However, the unemployment rate is expected to increase slightly, peaking at 4.4% in 2024, reflecting a cooling but still relatively strong labor market.
- Labor Market:
- Job gains have decelerated, averaging 116,000 per month over the last three months. The Fed sees the unemployment rate rising but remaining low at 4.2%, with wage growth stabilizing.
- Nominal wage growth is no longer seen as a primary driver of inflation, signaling that pressures in the labor market have eased.
- Fed’s Policy Path:
- The median projection for the federal funds rate shows it falling to 3.4% by the end of 2025. This implies further rate cuts, albeit at a slower pace as inflation stabilizes. The Fed remains committed to adjusting policy as necessary, with no pre-set course for future rate hikes.
Likely Future Fed Actions
Given the Fed’s cautious tone, future rate cuts seem probable, but the pace of easing will depend on incoming economic data, particularly on inflation and labor market conditions. Should inflation remain subdued and the labor market softens further, the Fed is likely to continue reducing rates in small increments to avoid a sharp economic downturn.
Possible Scenarios:
- Inflation Stabilizes: If inflation remains near the Fed’s target, the central bank could take a gradual approach to easing, bringing rates down to a more neutral level over the next year.
- Economic Slowdown: If economic growth falters or the labor market weakens significantly, the Fed may accelerate its rate cuts to prevent a deeper downturn, potentially employing more unconventional monetary policy tools. Global Financial Market Impact
- U.S. Dollar: The Fed’s dovish stance will likely weaken the dollar further. As the Fed reduces rates, the yield advantage of U.S. assets diminishes, potentially driving down demand for the dollar. Emerging market currencies and assets denominated in foreign currencies could benefit from this.
- Bonds: As rates fall, bond prices are expected to rise, particularly U.S. Treasuries. Investors seeking safety and yield may flock to government bonds, reinforcing the current rally in the bond market.
- Equities: The prospect of rate cuts is generally positive for equity markets, as lower rates reduce borrowing costs and support corporate profits. However, the reaction of stock markets will largely depend on the strength of the underlying U.S. economy. Should the economy slip into recession, equities could suffer despite easier monetary conditions.
- Global Markets: A more dovish Fed could lead to easier financial conditions globally, as other central banks may follow suit. Additionally, it could spur capital flows into riskier assets like emerging market equities and bonds as investors seek higher returns outside the U.S.
Conclusion
The Fed’s decision to cut rates by 50 basis points marks a decisive step in its fight to manage inflation while safeguarding the labor market. With inflation nearing the target and the labor market cooling, future rate cuts are likely but will be gradual, aiming to strike a balance between sustained economic growth and price stability. Global financial markets are poised to react to this dovish turn, with a potential weakening of the U.S. dollar, a rally in bonds, and mixed outcomes for equities depending on the economic outlook.
