Fed Approves Second Consecutive Interest Rate Cut, Signaling a Shift in Monetary Policy
The Federal Reserve (Fed) announced its second consecutive interest rate cut on Thursday, lowering its benchmark overnight borrowing rate by a quarter percentage point (25 basis points) to a target range of 4.50%-4.75%. This follows a larger half-percentage-point reduction in September and marks a less aggressive approach than previously seen, although it continues the central bank’s efforts to adjust monetary policy in response to evolving economic conditions. While widely anticipated by markets, this move reflects a nuanced recalibration of the Fed’s strategy, balancing its concerns about inflation with the need to support a robust job market.
Key Takeaways: A Cautious Approach to Rate Cuts
- Second consecutive rate cut: The Fed lowered its benchmark interest rate by 0.25 percentage points, bringing the target range to 4.50%-4.75%.
- Less aggressive pace: This cut is less aggressive than the previous half-percentage-point reduction, suggesting a more cautious approach.
- Balanced approach: The Fed now sees the risks to achieving its employment and inflation goals as “roughly in balance,” a shift from September’s “greater confidence.”
- Economic recalibration: The rate cut aims to align monetary policy with a slowing inflation rate and a labor market showing some signs of easing, yet still strong.
- Uncertainty remains: Questions persist regarding the future path of rate cuts, the “terminal” rate, and the overall impact on the economy.
The Fed’s Shifting Stance on Inflation and Employment
The Fed’s statement accompanying the rate cut showcased a subtle but significant alteration in its assessment of the economy. While previously expressing “greater confidence” in its ability to simultaneously curb inflation and support the labor market, the statement now declares the risks to achieving these goals as “roughly in balance.” This shift underscores a growing concern among policy makers that aggressively combating inflation might impede job growth and overall economic health, particularly given the signs of softening in certain sectors.
Analyzing the Labor Market and Economic Growth
The statement noted that “conditions have generally eased, and the unemployment rate has moved up but remains low.” This acknowledges a slowdown in job creation although it remains very low, signaling a continued strong labor market but one that is cooling. The economy, according to the Fed, “has continued to expand at a solid pace,” with third-quarter GDP growth at 2.8%, slightly below expectations but still exceeding the historical average. Preliminary estimates point to around 2.4% growth in the fourth quarter, indicating robust economic activity even given the rate increases.
However, the October nonfarm payroll figure showed a modest increase of just 12,000 jobs. This weakness was partially attributed to weather-related disruptions and labor strikes, highlighting the complexities in interpreting current labor market dynamics. The Fed’s decision balances these factors, making a reasoned judgment under a degree of moderate uncertainty.
The Impact of the Election and Future Policy
The rate cut comes amidst a changed political landscape following the presidential election. The implications of the incoming administration’s economic policies on inflation and growth remain uncertain. While the previous administration’s time in office saw low inflation and strong economic growth (not accounting for the COVID-19 related period), some economists believe the new administration’s plans may pose challenges for inflation control.
Navigating the Political Uncertainty
The incoming administration’s focus on trade protectionism through tariffs and potential immigration policies could further complicate the economic outlook, adding another layer of uncertainty for the Fed’s policy decisions. Although central bankers traditionally avoid making overt political statements, the new administration’s potential influence on the economy and its past criticism of the Fed chair add an element of unpredictability to the future of monetary policy.
The potential for accelerated economic activity under the new administration could potentially lead the Fed to moderate its rate cutting strategy, depending on how inflation behaves. This could necessitate a recalibration of expectations concerning the ultimate terminal interest rate, meaning how low the Fed sees the need for reducing rates moving forward.
Market Reactions and the Path Ahead
Despite the Fed’s rate cuts, markets have not reacted in a uniform or entirely predictable manner. Treasury yields and mortgage rates have actually risen since the September cut, with the 30-year mortgage rate climbing to approximately 6.8%, according to Freddie Mac. This divergence underscores the complexity of factors influencing market behavior and the limitations of predicting direct responses solely to central bank policy actions. The increase in rates does suggest that market participants may see a different trajectory for the economy than suggested by the Fed.
Predicting the “Terminal” Rate and Future Cuts
Much debate surrounds the “terminal rate,” which refers to the point at which the Fed will conclude its rate-cutting cycle. Market analysts, based on tools such as the CME Group’s FedWatch tool, anticipate another quarter-point cut in December, followed by a pause in January to assess the impacts of previous cuts. The September “dot plot,” which represents individual FOMC members’ rate projections, suggested further cuts totaling a half percentage point by the end of the existing year and another full percentage point in 2025. Further cuts in 2026 were also signaled, dependent on ongoing inflationary pressures and general economic performance.
The Pursuit of a “Soft Landing”
The Fed’s overarching goal is to engineer a “soft landing” for the economy—to lower inflation without triggering a recession. The Fed’s preferred inflation gauge showed a 12-month rate of 2.1% recently, though the core inflation rate (excluding food and energy), typically considered a more reliable long-term indicator, is sitting at 2.7%. Maintaining a soft landing will directly influence the rate setting decisions moving forward. Any signs of stronger than expected inflation or slower growth may influence the Fed to accelerate or delay future rate cuts.
The ongoing interplay between economic growth, inflation, labor market conditions, and the evolving political landscape suggests continued uncertainty. The Fed’s actions will require careful monitoring and analysis as it strives to navigate these complex dynamics and maintain economic stability – a delicate balance that involves mitigating the risks of both high inflation and recession.
