What you need to know
- Federal Reserve will likely cut the key interest rate this Wednesday. However, future plans are still up in air.
- Fed officials may be able to provide insight on how they digest recent economic statistics showing a stubbornly high inflation rate and a still cool but resilient labor market.
- Expectations for more rate cuts next year have diminished, and incoming president Donald Trump's tariffs are an economic wildcard that could affect the Fed's monetary policy.
Next Wednesday the Federal Reserve will meet and is expected to lower borrowing rates. Officials could also shed some light on recent economic trends that may influence their decision on interest rate decisions in 2019.
According to CME’s FedWatch, a tool that forecasts rates movements using fed funds futures data, financial markets have priced in 97% of the chance that the Federal Reserve would cut the federal funds rate by quarter percent to an estimated range between 4.25% and 4.5%. Such rate reductions may be scarce in the upcoming year.
In recent months, the Fed’s justification for cutting interest rates diminished after reports showed that inflation remained stubbornly over the Fed’s goal of a 2 percent annual rate while jobs remained relatively abundant. In September and November, the Fed cut its benchmark rate after it had been at an all-time high of more than two decades. This was done to curb inflation following the pandemic.
Interest rates for credit cards, business loans and auto loans are affected by the fed funds rate. High rates today aim to slow the economy and discourage lending, thereby reducing inflation.
Not only does the Fed fight inflation, but it also aims to reduce severe unemployment. In September, Fed officials were more worried about this aspect of the dual mission after a job slowdown earlier in the fall. Although employers have reduced hiring, they have not made large-scale cuts.
In 2025, economists expect fewer cuts.
The open questions for Wednesday's meeting are how the Fed will balance those two priorities in its future rate cut plans and what Fed chair Jerome Powell will say about the outlook in a post-meeting press conference. Although the rates are set for the week ahead, the exact timing of future rate reductions is not yet known.
The Fed’s policymakers made their last economic forecasts in September. They predicted a rate of between 3.25% and 4.5% at the end 2025. This is an entire point lower than the level expected by the end this year.
Economists at Wells Fargo predicted the next round of projections, due at Wednesday's meeting, would show only three quarter-point cuts in 2025 instead of four. Deutsche Bank economists predicted that despite the Fed’s projections, it would not reduce rates for atleast a year. Moody's Analytics forecast two rate cuts next year.
Trump's Policies Are a Wildcard for the Fed
It is harder to predict the future with a change of presidential administration. It is possible that the trajectory of the economy and inflation could depend on the economic plans of incoming President Donald Trump.
Different economists have different assumptions about the severity of these tariffs, their effect on the economy, and whether or not they are merely a tactic for negotiation. Forecasters predict that inflation will increase as retailers pass on the costs of new import taxes to the consumers.
Tariffs can also have a negative impact on the economy and businesses in the United States, which could force the Fed to lower rates to stimulate the business sector to maintain the labor market.
“The challenge for the Federal Reserve will be to parse out the supply-side shock of tariffs from demand-driven trends in employment and inflation,” In a recent commentary, Wells Fargo Securities’ economists wrote.
The Fed may be more careful about future rate reductions if it is concerned with all these open questions.
“The potential for dramatic shifts in trade and domestic policy wrought by the incoming Trump administration is an added uncertainty and supports a more wait-and-see approach from the FOMC,” Matt Colyar is an economist from Moody’s Analytics. He wrote a comment.
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