US Fed's rate cuts expected to be limited

September 26, 2024 (MLN): The scale of the US Federal Reserve’s interest rate cuts in this monetary policy-easing cycle is still likely to be modest in comparison with historical rate-cutting episodes, despite the larger-than-expected cut at last week’s FOMC meeting, Fitch Ratings says.

Fitch now expects the federal funds target (upper) rate to fall to 4.5% by the end of this year, and to 3.5% by the end-2025, and then to a neutral level of 3.0% by June 2026.

The 50bp cut in the federal funds rate to 5.0% exceeded Fitch’s expectations in its September 2024 Global Economic Outlook.

The size of the move was hard to justify based on incoming economic data, with core services CPI inflation remaining high at 4.9% year-on-year in August and rising to 0.4% month-on-month.

The decision seems partially to reflect a ‘risk assessment’ element in response to recent labour market dynamics, where the unemployment rate has risen to 4.2% in August from 3.7% in December 2023.

While the Fed’s latest forecasts show unemployment remaining low, Fed Chair Jerome Powell made numerous references at the post-meeting press conference to the risk that unemployment could - unexpectedly - continue to rise.

Significant improvements in core inflation since July 2023 have enabled the Fed to refocus on the maximum employment component of its dual mandate, after having had a singular concentration on inflation since early 2022.

Recent increases in unemployment primarily reflect a recovery in the labour force in the past 12-18 months. Payrolls continue to grow and consumption remains resilient. Fitch does not expect a sharp deterioration in the US job market.

The agency now expects the Fed to cut rates by 25bp at both the November and December meetings, followed by four more 25bp cuts through 2025, with rates being lowered at every other FOMC meeting next year.

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