Markets See Increased Chance Of Large September Rate Cut

The US Federal Open Market Committee is expected to cut interest rates in its next meeting in September. Currently markets view it as more likely that the FOMC cuts rates by 0.5%, in contrast to moving interest rates by 0.25%, which is more common.

This is the implicit expectation of fixed income markets based on the CME’s FedWatch Tool. Recent inflation data has suggested that prices are a tracking much closer to the FOMC’s target than in recent years, if still slightly above the FOMC’s 2% annual inflation goal. For example, the Consumer Price Index rose 3% for the year to June.

Importantly, job data has been softer than expected in recent weeks. The unemployment rate has increased to 4.3%, adding 114,000 jobs during July, which was a slower rate of job growth than most economists expected. The slowing rate of job creation perhaps raises fears of a more marked economic slowdown, if not a recession.

A Potential Move Down From Peak Rates

The FOMC has held the Federal funds rate at peak levels of 5.25% to 5.5% since it last raised interest rates July 2023. However, policymakers now acknowledge that as inflation has fallen and unemployment has moved up, it may be becoming prudent to reduce interest rates. Though a September cut has been increasingly anticipated, now the market’s expectations for the potential size of any cut in rates and further policy easing in 2024 have been increased.

Fixed Income Market Expectations

The FOMC’s next meeting is scheduled to result in an interest rate decision on September 18. Currently fixed income markets imply no chance that the Fed does not cut interest rates. This assessment is largely due to changing economic data and market volatility since July’s meeting — chiefly the weakening unemployment statistics which have raised the prospects of slowing economic growth, if not some risk of a recession.

In recent weeks fixed income markets have set expectations for a more dovish set of Federal Reserve decisions during the remainder of 2024. The most likely outcome is currently three to five interest rate cuts over the three remaining FOMC meetings this year. These decisions are planned for September 18, November 7 and December 18. Of course, the FOMC is free to adjust interest rates at any point if, in its view, the economic news warrants it.

Economic Projections

The September meeting will also see the FOMC update its Summary of Economic Projections. These offer an explicit forecast as to where interest rates will end 2024 from policymakers. These forecasts also provide a broader of forecasts for a host of economic variables over the coming years. This should give markets further insights as to what the FOMC is thinking for monetary policy over the medium term. Fed Chair Jerome Powell may also use his upcoming Jackson Hole speech in late August for the same purpose.

At the last Fed meeting where projections were updated on June 12, FOMC officials forecast between zero and two interest cuts for 2024. It’s likely those forecasts will become more dovish with September’s update as the FOMC cuts rates and sets expectations for further easing.