After the most aggressive tightening campaign in 40 years and the second longest pause in history with rates in restrictive territory, the Federal Reserve cut its benchmark interest rate by 50 bps during its September meeting, which was in line with market expectations. Thus, the FED Fund Rate (FFR) moved to a range of 4.75%-5.25%. The decision, which was made by 11 votes in favor out of a total of 12 voting members, signals a critical turning point in the monetary policy cycle and a commitment not to be left behind by maintaining an overly restrictive policy for too long.

The update of the economic projections was also published, in which the growth projection for this year was slightly corrected downwards, from 2.1% to 2.0%, but remained unchanged for the next two years. Meanwhile, the estimate for the unemployment rate was raised for all years of the monetary policy horizon, although with a conservative increase that would peak this year, at 4.4%, before falling again to 4.2% in 2027.

For inflation, the projections were revised downward for both headline and core inflation, with both converging to the 2.0% target during 2026. The range for the long-term FFR remained unchanged at 2.5-3.5%.

The summary of economic projections showed that Fed officials still expect growth to remain resilient around the economy's potential, inflation to return to target next year and, while there would be further cooling in the labor market, it would remain around full employment.

Following the news, further cuts are expected at the early November and mid-December meetings, although Jerome Powell made it clear that 50 bp cuts are not the norm and that smaller adjustments remain the basis for upcoming meetings. According to the Dot Plots, we would most likely have a quarter point cut in November and another in December, followed by an additional four in 2025 and two in 2026. This trajectory would reduce the rate to 2.9%, a level that Fed officials consider the neutral point.

The last three times the Fed cut rates by 50 bps in a single meeting during an easing cycle, it was in 2020 in response to the pandemic; in 2008, in response to the financial crisis; and in 2001, to the bursting of the tech bubble. Clearly, this time is different in the sense that the financial institution is cutting rates because it can, not because it has to.

The larger adjustment this time would not be a reaction to recessionary conditions but rather an insurance against an unexpected slowdown in employment, with the objective of preserving the economic expansion. The sum of the aggressive cut and macro projections consistent with a soft landing view for the U.S. economy in this cycle would favor growth to re-accelerate in 2025.

While some specters of recession continue to haunt, the fact remains that the numbers support the Fed's soft landing scenario. Consumer spending remains solid, as evidenced by the most recent retail sales data. Meanwhile, jobless claims are low, pointing to a cooling rather than a sudden deterioration in the labor market, with the rise in unemployment driven by a rise in labor supply rather than layoffs.

In addition, household net worth is at record levels, driven by appreciating home and stock prices, while wages have been growing faster than the pace of inflation since May of last year, helping consumers maintain purchasing power. Unlike 2022 and part of 2023, financial conditions and credit standards are loosening.

But what does it mean for Chile that the Fed cuts have begun? Well, in the first place, and although it is not declared as such by the monetary authority, it took our Central Bank out of the pause it had entered in July to cut the rate again in September, although only by 25 bp. In any case, as revealed in the recent minutes of that meeting, the discussion of a 50 bp rate cut was on the table, although it was quickly discarded.

Communicatively, we find this inclusion interesting, because rather than signaling the option of being more aggressive, its rapid abandonment would imply that for the next meetings there is no urgency to go faster. This is consistent with the macro scenario presented in the IPoM that accompanied this meeting, which is more aligned with our expectation of an economy with low dynamics for the remainder of the year and difficulties to pick up speed in the next ones.

On the other hand, a lower rate in the northern giant favors a weakening of the dollar, from which our local currency has already benefited, taking it towards levels closer to those we consider coherent with the fundamentals . However, we should not forget that the currency is still affected by another series of factors related to the external environment, such as, for example, the price of copper; therefore, it could continue to face some pressures.

The truth is that now, with the US already involved in the rate adjustment process, our Central Bank will be able to continue its own adjustment process with a little more slack, so that the trajectory is more consistent with the weak macro scenario we are facing. It would be logical, then, to think that the FED and the BCCh still have two 25 bp cuts to execute in the remainder of 2024.

Nathan Pincheira | Fynsa Chief Economist

Milene Rodríguez | Strategy and Investment Analyst