In yesterday’s Fed message, Chair Jerome Powel said the central bank will leave its benchmark interest rate unchanged, adding that the Fed believes its policy rate is ‘likely at or near its peak.’. Yet, off the record, officials mentioned that they wouldn’t rule out further hikes in the event the rate of inflation should reaccelerate – yet, at the same time, they penciled in three rate cuts in 2024. So, for now, the question is when will they start with the cut process? Market research suggests that the first cut may occur at the end of Q1/2024. CME Group stats released later in the evening suggest that traders are placing an 80% probability for this scenario.
Remember, that after the most aggressive cycle of hikes in four decades, the benchmark rate reached a 22-year high this week. The pivot away from raising interest rates and toward considering when to cut them, igniting a rally on Wall Street.
The carefully crafted policy communiqué was left with much less attention one hour after it was released as the attention had turned to when to rate cuts would be initiated. Yet, the communiqué doesn’t provide any hints. While the Fed’s new next year projections marked a notable U-turn, investors still have the echo of the messages that they would raise rates as much as needed to lower inflation even if that triggered a recession.
The comment about rate cuts was surprising because just two weeks ago during an appearance at Spelman College in Atlanta, Powell said it was too soon to speculate about when lower rates might be appropriate.
Powell indicated officials were turning their attention to rate cuts because the recent inflation reading suggests that inflation is well under control. In their latest projections, they expected core prices, which exclude volatile food and energy items, to rise 3.2% this quarter from a year ago, down from their September projection of 3.7%. They see core inflation of 2.4% at the end of next year, down from their September expectation of 2.6%.
Wall Street forecasters said that could put core inflation on track to reach or even dip below 2% on a six-month annualized basis, and it could drop the 12-month rate to 3.1%.
The U.S. economic outlook has brightened in recent months because inflation and wage growth are slowing. That would give the Fed more room to lower rates rapidly if the economy weakens more than officials expect, and it could open the door to cuts even if the expansion doesn’t stall.
One year ago, many economists anticipated that Fed officials would have to raise rates to levels that would create enough slack—such as unemployed workers and idled factories—to significantly slow inflation. But healthy offer and supply conditions and the absence of any major supply chain disruptions throughout 2023, an influx of new and qualified workers into the labor force are curbing wages, while global price increases have stabilized thereby maintaining favorable conditions for broad-based economic activities.