Fed cuts rates again, but Powell raises doubts about easing at next meeting
News Summary
The US Federal Reserve on Wednesday approved its second straight interest rate cut, lowering its benchmark overnight borrowing rate to a range of 3.75%-4%. However, Chair Jerome Powell rattled markets by casting doubt on whether another reduction is coming in December, causing traders to lower odds for a December cut from 90% to 67%. The rate decision passed by a 10-2 vote, with Trump appointee Governor Stephen Miran preferring a more aggressive cut and Kansas City Fed President Jeffrey Schmid opposing any cut. Additionally, the Fed announced it would be ending its quantitative tightening (QT) process, which has shrunk its balance sheet by about $2.3 trillion, on December 1. The reduction came despite the Fed "flying blind" on economic data, as the government has suspended most reports except for the Consumer Price Index. The recent CPI report showed annual inflation at 3%, pushed by higher energy costs and items linked to Trump’s tariffs. The Fed's post-meeting statement acknowledged data uncertainty, noting moderate economic expansion, slowed job gains, and "somewhat elevated" inflation.
Background
The Federal Reserve operates under a dual mandate to achieve maximum employment and stable prices, targeting 2% inflation. It previously undertook a series of aggressive rate hikes to combat a surge in inflation. Quantitative Tightening (QT) is the process by which the Fed reduces its massive balance sheet accumulated during the pandemic, by allowing maturing bonds to roll off without reinvestment, thereby tightening financial conditions. The current US economic environment is characterized by inflation persistently above target (3% CPI) and signs of slowing job gains. However, the Fed is operating without a comprehensive economic picture due to a government suspension of several key economic data reports. Notably, incumbent US President Donald Trump has been a vocal proponent of the Fed rapidly lowering interest rates.
In-Depth AI Insights
What do the Fed's internal divisions and political pressures signal about future monetary policy? The Fed's "strongly differing views" on a December rate cut, coupled with Trump appointee Stephen Miran's dissenting vote for a larger cut, highlight increasing political influence and internal contention in the Fed's decision-making process. This could lead to: - Increased Policy Uncertainty: Internal disagreements may result in more ambiguous forward guidance, heightening market speculation about future Fed actions. - Risk to Independence: Persistent pressure from the Trump administration for lower rates, alongside dissents from its appointees, could erode market confidence in the Fed's independence, challenging its credibility in responding to economic challenges. - Heightened Rate Volatility: The politicization of policy formulation might lead to more erratic interest rate decisions, making asset pricing more difficult for investors. How do the Fed's decisions, made while "flying blind" due to a lack of key economic data, impact market confidence and the risk of policy missteps? The Fed's move to cut rates and end QT, despite most economic data being suspended (except for CPI), means it is making significant policy adjustments while "flying blind." This approach carries profound implications: - Eroded Market Confidence: Investors may question the basis of the Fed's decisions, perceiving them as hasty in the face of uncertainty, which could diminish overall market confidence in the economic outlook. - Increased Risk of Policy Errors: The absence of comprehensive data could lead the Fed to misjudge economic conditions, resulting in ill-timed policies – for instance, over-easing when inflation is still elevated, or tightening too rapidly during economic weakness. - Asset Bubble Risk: Sustained easing without a full understanding of underlying economic fundamentals could fuel asset bubbles, especially given the current bull market in stocks driven by Big Tech. What are the strategic implications of the Fed ending QT and potentially restarting asset purchases for liquidity and asset prices? The Fed's decision to halt its balance sheet reduction on December 1, combined with analyst predictions of a potential restart of asset purchases in early 2026 for "organic growth," signals a strategic shift from tightening towards potential monetary expansion, even as rates are being cut. This could imply: - Improved Market Liquidity: Ending QT inherently stops the drain on market liquidity, and a future restart of asset purchases would directly inject more liquidity, generally benefiting risk assets. - Support for Asset Prices: Ample liquidity typically supports equity and bond prices, particularly in the context of a bull market and gains in large tech stocks. Hedge funds and institutional investors might interpret this as the Fed providing a "put option" to the market. - Rising Inflationary Pressures: With CPI already at 3%, halting QT and potentially restarting purchases could further exacerbate inflationary pressures, potentially forcing the Fed into more aggressive tightening measures in the future, creating a cyclical policy response.