Fynsa
The FOMC left rates unchanged this week as widely expected. What was not as widely expected by the market is that the midpoint signal for this year's rate projections was a bit more hawkish, showing only one cut in 2024, down from three in March. Now, that was "offset" by the projections for the next few years, projecting another four cuts in 2025 (versus three in March) and four in 2026 (also versus three in March). Thus, the total number of cuts over the next two and a half years is still nine, as was the case in the March projections, only with a later start and a faster recovery after the end of the year.
With respect to the release, the overall economic assessment is largely unchanged, with the economy expanding at a solid pace and, although it has lost momentum compared to what was observed in 2023, the cooling is occurring gradually with domestic demand remaining robust.. The labor market has been adjusting and labor supply and demand are now in better balance, with the unemployment rate down since 2023.The labor market has been adjusting and labor supply and demand are now in better balance, with a historically low unemployment rate, accompanied by strong job creation.
Where there is a nuance, however, is in the categorization of inflation.Whereas the May statement referred to "a lack of progress" towards 2% inflation in recent months, this week's statement describes "modest progress", which is consistent with the inflation data for the last two months and particularly this month, this week's statement describes "modest progress", which is consistent with the inflation data of the last 2 months and in particular this week's data which surprised to the downside.
At the press conference Powell made a few other comments that are worth commenting on. First, he said the labor market data would have to be worse than the FOMC expects to add to the case for a cut (recent data have continued to be strong). Second, he again downplayed the importance of neutral rate estimates beyond the median increase to 2.8% for monetary policy decisions. Finally, he emphasized that the decision to project only one cut for this year was "very close" and that both one cut and two cuts remain plausible outcomes.
Indeed, there were four participants who expected no change. The rest were split 7-8 in favor of one cut and two, respectively, and the implied market probability of a cut for September exceeds 60%, while that for December looks like a sure call.
Finally, and by way of reflection, what is the reason for the still cautious tone set by the Fed? Their continued reluctance to declare victory in their fight against inflation and maintain a tightening stance may be justified by the fact that they had to respond to an inflationary shock not seen in decades and, therefore, it is necessary to gauge confidence in the effectiveness of monetary policy after a long period of very low rates. Second, caution in maintaining a tightening bias also helps to anchor inflation expectations. And third, overconfidence and clarity that the tightening cycle is over could contribute to a premature easing of financial conditions, which may put a strain on inflation dynamics. The problem is that financial conditions today do not appear particularly tight.
What is the risk? That the Fed will wait too long and thereby damage economic growth and financial stability.
