Fed Pivots Toward Rate Cuts

The Federal Reserve held interest rates steady for a third meeting and gave its clearest signal yet that its aggressive hiking campaign is finished—by forecasting a series of cuts next year.

Officials decided unanimously to leave the target range for the benchmark federal funds rate at 5.25 percent to 5.5 percent, the highest since 2001. Policymakers penciled in no further interest-rate hikes in their projections, for the first time since March 2021, based on the median estimate.

Although Chair Jerome Powell said officials are prepared to hike again if price pressures return, he indicated that policymakers are now turning their focus to when to cut rates, as inflation continues its descent toward their 2 percent goal.

Absent pushback on near-term rate cuts from the Fed chief, Treasuries surged and stocks jumped, while traders boosted bets on a March reduction to a near certainty.

Quarterly projections showed Fed officials expect to lower rates by 75 basis points (bps) next year, a sharper pace of cuts than indicated in September. While the median expectation for the federal funds rate at the end of 2024 was 4.6 percent, individuals’ expectations varied widely.

The Fed’s “dot plot” showed eight officials predict fewer than three quarter-point cuts next year, while five anticipate more.

“His presser certainly had a tone of finality to it,” said Derek Tang, an economist with LH Meyer/Monetary Policy Analytics. “He and the whole FOMC [Federal Open Market Committee] saw no need to push back with the dots against the market suspicion of earlier and deeper easing.”

Powell emphasized that the projections are not a pre-set plan, but acknowledged that policymakers at this week’s meeting discussed the question of when it will become appropriate to begin cutting rates.

“That begins to come into view and is clearly a topic of discussion out in the world and also a discussion for us at our meeting today,” he said at a press conference following the meeting.

A tweak to the Fed’s post-meeting statement on Wednesday also highlighted the shift in tone, with officials noting they will monitor a range of data and developments to see if “any” additional policy firming is appropriate. That word was not present in the November statement from the policy-setting FOMC.

In another shift, the committee also acknowledged that inflation “has eased over the past year but remains elevated.” In addition, most participants now see the risks to price growth as broadly balanced.

Inflation Forecasts

The updated projections also showed lower inflation forecasts for this year and next, with the Fed’s preferred price gauge (excluding food and energy) now seen increasing 2.4 percent in 2024. Policymakers lowered their forecast for economic growth slightly for next year while keeping unemployment projections unchanged.

Policymakers anticipate further reductions in the fed funds rate, to end 2025 at 3.6 percent, according to the median estimate of 19 officials.

What Bloomberg Economists Say…

“The FOMC showed a surprising willingness to endorse market pricing of rate cuts. The forecast in the latest SEP reflects a total embrace of the soft-landing scenario.”

— Anna Wong, Stuart Paul, Eliza Winger, & Estelle Ou, economists

The Fed’s long-awaited pivot, following 5.25 percentage points of rate hikes, reflects a marked slowing of price pressures since midyear and a cooling of the labor market. The challenge for Fed officials now is to decide when to start cutting rates, which, if done too soon, would endanger inflation’s return to the Fed’s 2 percent goal.

Comments from Fed Governor Christopher Waller, one of the most vocal supporters of the central bank’s actions to tamp down inflation, helped fuel that speculation. He said in November the central bank would be willing to consider lowering the policy rate as inflation comes down, something he said could happen in three to five months.

Yield Pullback

The pullback in Treasury yields in recent weeks has erased much of the run-up seen through the summer and into October. At the time, policymakers suggested the significant tightening in financial conditions could help lessen the need for further interest rate hikes.

The stark reversal has already begun to ripple through the economy in the form of lower mortgage rates, sparking renewed demand in recent weeks to refinance and purchase homes. It’s also gotten cheaper for companies to borrow—something they’re taking advantage of.

Powell’s comments Wednesday suggested a shift from remarks less than two weeks ago, when he pushed back against market expectations for a rate cut in the first quarter of next year.

“It would be premature to conclude with confidence that we have achieved a sufficiently restrictive stance, or to speculate on when policy might ease,” he said on December 1, right before the Fed’s pre-meeting communication blackout period.

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