Is the Fed Hitting the Brakes on an Economic Boom?

The US Federal Reserve has initiated its latest rate-cutting cycle, leading analysts at Yardeni Research to question whether the central bank is easing monetary policy amidst an economic boom.

The Federal Open Market Committee has reduced its benchmark rate to a range of 4.75% to 5.0%, marking the first rate decrease since March 2020, after maintaining borrowing costs at a two-decade high for more than a year.

Historically, most of the Fed’s monetary easing cycles have been prompted by financial crises that quickly escalated into widespread credit crunches, resulting in recessions, according to analysts at Yardeni Research in a note from September 17. Since 1960, the Fed has typically cut the federal funds rate (FFR) by over 500 basis points during average easing cycles.

Consequently, the FFR futures market is increasingly anticipating an additional 200 basis points of cuts following Wednesday’s 60 basis point reduction over the coming year.

However, Yardeni Research points out that previous easing cycles commenced from significantly higher FFR levels. Moreover, during the 1995 easing cycle, the Fed only reduced the FFR by 25 basis points three times, which represents the most recent instance of a successful soft landing.

Yardeni expressed concern that lowering the FFR too rapidly could lead to an economic boom characterized by rapid real GDP growth but accompanied by heightened inflation risks. Additionally, it could trigger a surge similar to the stock market melt-up observed in the 1990s.