– Fed Officials Project 4.4% By End 2024; 3.4% End 2025; 2.9% End 2026
– Powell Says FOMC ‘In No Rush’ To ‘Recalibrate’ to ‘More Neutral’ Stance
– Longer Run ‘Neutral’ Funds Rate Raised Further to 2.9%
By Steven K. Beckner
(MaceNews) – The Federal Reserve undertook a major shift in the direction of monetary policy Wednesday, cutting short-term interest rates by a fairly aggressive half percentage point and projecting substantial further rate reductions over coming months and years.
Brushing aside concerns that a rate cut this close to the November presidential election might be construed as political, Chair Jerome Powell explained the move by saying that increased confidence in inflation reduction and greater concern about employment justified “recalibrating” monetary policy to a “more neutral” stance.
Powell made clear that more monetary easing is in the offing, saying the Fed has “made a good start” toward making interest rates “more normal,” and he said the size of the rate cut should be seen as “a sign of our confidence that inflation is coming down to 2% on sustainable basis.”
At the same time, though, he said the Fed’s rate-setting Federal Open Market Committee “will not be in any rush,” but will set rates on a “meeting by meeting” basis in response to what incoming economic data seem to say about “the outlook and the balance of risks.”
Declining to specify the pace of future rate cuts, Powell said the FOMC could move faster or slower, or take a “pause” as warranted by the economic data.
Although some financial market participants had called for a more modest 25 basis point rate cut, the FOMC decided to reduce the federal funds rate by 50 basis points to a target range of 4.75% to 5.00%, after leaving it unchanged since last July. In a relatively rare dissent, Fed Governor Michelle Bowman opposed the action, because she favored a 25 basis point move.
The FOMC had previously raised its policy rate 525 basis points to combat inflation after holding it near zero for two years through March 2022 to counter the pandemic’s economic fall-out.
In their revised quarterly Summary of Economic Projections, the 19 FOMC participants projected the funds rate will end 2024 at a median 4.4, implying 50 basis points of further reductions to a target range of 4.25% to 4.5% over the final two meetings of the year.
The officials deemed that “appropriate policy” will require further rate reductions next year.
They project the funds rate will fall by another 100 basis points to a median 3.4% by the end of 2025 (a range of 3.25% to 3.5%), and to 2.9% by the end of 2026 (a range of 2.75% to 3.0%).
Significantly also, the officials further raised their estimate of the “longer run” funds rate by a tenth to 2.9%. Implicitly, that includes the 2% inflation target plus a 0.9% real interest rate, implying that the FOMC would need to lower the nominal funds rate an additional 200 basis points to get the policy rate to “neutral” – something which Powell said needs to be done.
As projected, the funds rate will reach that neutral 2.9% level at the end of 2026.
The FOMC had previously raised the longer run estimate a tenth in March and two tenths in June, as Fed officials came to believe that the real equilibrium short-term interest rate (r*) had risen. A higher real rate implies a higher neutral rate and, in turn, a higher nominal funds rate to achieve the Fed’s dual mandate objectives.
The distribution of projections in the FOMC’s “dot plot” shows considerable division among officials. While nine favored cutting the funds rate to a range of 4.25% to 4.5% by the end of 2024, seven favored cutting it to a range of 4.5% to 4.75%..
The economic forecasts accompanying the rate projections support the FOMC’s plans for continued monetary easing.
The officials forecast that PCE inflation will end 2024 at 2.3% – three tenths lower higher than forecast in June. Core PCE inflation is expected to close out the year at 2.6% — down from 2.8%.PCE inflaion is forecast to fall to 2.1% next year and then to 2.0% in 2026. Their forecast of 2.0% real GDP growth is down from the 2.1% forecast in June. The unemployment rate is forecast to be 4.4%, up from 4.0% in the June SEP, and to go no higher than that next year.
The FOMC’s much anticipated, but nonetheless momentous decision, comes after a series of data reports showing a combination of moderating inflation and cooling labor markets. In August, the consumer price index was up 2.5% from a year earlier, down from July’s 2.9%. Core CPI was up 3.2%. Non-farm payroll gains slowed to 142,000 last month, but the unemployment rate fell a tenth to 4.2%, and average hourly earnings accelerated to 3.8%. Real GDP growth, meanshile, has continued at 2% or more.
In announcing the rate reduction, the FOMC necessarily made important changes to its policy statement. Gone is the previous assertion that “the Committee does not expect it will be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward 2%.” Instead, the key third paragraph of the new statement says, “In
considering additional adjustments to the target range for the federal funds rate, the Committee will carefully assess incoming data, the evolving outlook, and the balance of risks.”
In the preceding paragraph, the FOMC now says, “The Committee has gained greater confidence that inflation is moving sustainably toward 2%, and judges that the risks to achieving its employment and inflation goals are roughly in balance. The economic outlook is uncertain, and the Committee is attentive to the risks to both sides of its dual mandate.”
By contrast, the FOMC had previously said, “The Committee judges that the risks to achieving its employment and inflation goals continue to move into better balance. The economic outlook is uncertain, and the Committee is attentive to the risks to both sides of its dual mandate.”
Talking to reporters after the FOMC announcements, Powell defended both the timing and the size of the rate cut, while insisting that the action was not in any way designed to help or hurt either presidential candidate.
Explaining why the FOMC had waited until now to start lowering rates – well after other central banks had begun doing so – he said, “our patient approach has paid dividends” in terms of having “gained confidence that inflation is moving sustainably to 2%.”
Powell denied that the Fed has gotten “behind the curve” by waiting to cut rates.
Explaining why the FOMC moved ahead with a 50 basis point cut, he echoed the FOMC statement. “As inflation has declined and the labor market has cooled, the upside risks to inflation have diminished and the downside risks to employment have increased. We now see the risks to achieving our employment and inflation goals as roughly in balance, and we are attentive to the risks to both sides of our dual mandate.”
Powell said, “this recalibration of our policy stance will help maintain the strength of the economy and the labor market and will continue to enable further progress on inflation as we begin the process of moving toward a more neutral stance.”
He emphasized “we are not on any preset course. We will continue to make our decisions meeting by meeting.”
Powell said the FOMC was conscious that “that reducing policy restraint too quickly could hinder progress on inflation,” but that “at the same time, reducing restraint too slowly could unduly weaken economic activity and employment.”
The Fed chief also stressed that the FOMC is prepared to be flexible in its “meeting by meeting” approach to policy making.
“As the economy evolves, monetary policy will adjust in order to best promote our maximum employment and price stability goals,” he said. “If the economy remains solid and inflation persists, we can dial back policy restraint more slowly. If the labor market were to weaken unexpectedly or inflation were to fall more quickly than anticipated, we are prepared to respond.”
In this “process of recalibrating our policy stance…to place a that’s more appropriate,” Powell said, “we’re not in a rush to get this done…. We can go quicker if that’s appropriate; we can go slower if that’s appropriate, “or we can pause.”
Calling both the economy and the labor market “solid,” he suggested the FOMC can afford to take its time and move incrementally. “We can continue to remove restriction, look at how the economy reacts to that… (and) ask ‘is our policy stance appropriate.’”
“In no sense is the Committee in a rush,” he went on. “We’ve made a good strong start to this, which is a sign of our confidence that inflation is coming down to 2% on sustainable basis, so we can make a good strong start’ at easing.
“We’re going to go carefully meeting by meeting and make our decisions as we go,” he added.
In light of weaker jobs data, including ta more than 800,000 downward seasonal adjustment to payrolls, Powell was asked whether the FOMC had waited too long to start lowering rates.
“We don’t’ think we’re behind,’he replied. On the contrary, “we think (our action) is timely .… The intention is not to get behind.”
Powell warned markets not to assume that the FOMC will continue cutting rates by 50 basis points per meeting. “I don’t think anyone should look at this and think this is the new pace.”
“We’re recalibrating policy over time to a more neutral level,” he elaborated. “We’re moving at a pace we think is appropriate given the base case for the economy.”
The size and frequency of future rate cuts will depend on how the economy evolves, Powell said, adding that the Fed has acted efficiently to achieve its dual mandate of price stability and maximum employment.
Defending the Fed’s past actions, he said. “We think our policy was appropriately restrictive.”
“Now, we think it’s time to begin the process of recalibrating to a stance that’s more neutral as opposed to restrictive,’ he reiterated. “That process will take some time…”
As the “recalibration’ process proceeds, he said “other rates will come down as well.”
In fact, market rates have been falling in anticipation of Wednesdays rate cut. For example, since the July 31 FOMC meeting, the 10-year Treasury note yield has fallen from 4.1340% to 3.60% on the eve of Wednesday’s meeting, and that has translated into a similar decline in mortgage rates.