Insights from the Beginning of a Federal Reserve Rate-Cutting Cycle

The Federal Reserve began its rate-cutting cycle in September, implementing a significant 50 basis-point reduction in policy rates. This move marked a noteworthy change in monetary policy, as it was the first rate cut in the United States since 2020.

According to analysts at Wells Fargo, the magnitude of this cut, coupled with comments from Fed Chair Jerome Powell, indicated growing concerns about the job market while showing less alarm regarding inflation.

Powell mentioned during a press conference that the labor market remained robust, and the rate decision aimed to maintain its stability, as noted by Wells Fargo strategists in a recent analysis.

Members of the Federal Open Market Committee (FOMC) anticipate a slight increase in unemployment, projecting it to rise to 4.4% for 2024 and 2025, while estimating GDP growth at 2.0% annually during that timeframe. Wells Fargo suggests that this outlook reflects a labor market that is indeed cooling, but not significantly.

Importantly, FOMC members also foresee a continued decline in inflation. This scenario appears to pave the way for rate cuts; however, the extent of those cuts, particularly for 2025, remains uncertain.

Contrary to market expectations, the Fed’s revised projections show a discrepancy. Market forecasts are suggesting 125 basis points of cuts for both 2024 and 2025, which reflects a more aggressive stance than the Fed’s median estimate of 100 basis points for each year.

Strategists noted that nearly all FOMC members expect 100 basis points or less of cuts in 2024, indicating that market participants may face some disappointment. They highlighted that the market’s pricing would necessitate at least one more 50 basis-point cut in 2024, rather than two 25 basis-point reductions, which they do not believe align with the current labor market conditions. This sentiment is echoed in Powell’s commentary.

Looking forward, strategists are wary of market expectations concerning the Fed’s rate-cutting actions, deeming them overly optimistic. They argue that achieving a total of 200 basis points in cuts by 2025 would likely require a significantly worse economic outlook than current projections from both the analysts and the Fed.

If the economy trends towards a gradual slowdown followed by recovery in the second half of 2025, as anticipated, the September cut may well be the only 50 basis-point reduction observed in this cycle. Additionally, Wells Fargo suggests that inflation could rebound by mid-2025, potentially constraining the Fed’s capacity to execute all proposed rate cuts.

In a more pragmatic scenario, they propose an additional 50 basis points of cuts in 2024 and 75 basis points in 2025.