The market wants bigger profits
Someone call the vice principal to enforce discipline! The markets are blackmailing the Federal Reserve again.
Economic data earlier this week dashed market hopes that the Fed might cut interest rates by 50 basis points. Consumer Price Index The Consumer Price Index (CPI) was in line with expectations, but core prices rose slightly, as was the Producer Price Index, which was in line with consensus headline expectations and core prices rose.
The number of jobless claims was little changed, increasing slightly by 2,000 to 230,000. Oddly, this is the four-week moving average of claims, 230,750, which is just about the same as the average for the previous week. Waiting again A level that suggests labor demand is strong enough to curb layoffs.
By yesterday, the odds of a 50 basis point cut in Fed Funds futures had fallen from roughly equal to the odds of a 25 basis point cut to around one in four. Too bullish With the Federal Reserve meeting less than a week away, there's a lot of caution around a rate cut, and the overwhelming consensus at this point should be that the Fed will cut rates by a quarter of a percentage point when the meeting concludes on Wednesday.
The market thinks differently. As of Friday's stock market close, Markets were again pricing in the probability of the Fed announcing a 50 basis point rate cut next week.Keep in mind that there was very little data to support this change in opinion on Friday. The only big news was a University of Michigan survey of consumers showing inflation expectations had fallen to 2.7%, which is welcome news for Fed expectations watchers, but not enough to justify a half-point rate cut.
Circle of joy
It seems futures markets aren't the only ones convinced bigger cuts are on the way. Stock prices rose and bond yields fell. Watching the market action on Friday, I got the impression that some sort of cyclical confirmation was happening: futures looked to bonds, a bigger cut was confirmed, sparking a rise in stocks, which prompted bonds to rally, which sent a signal to futures, which prompted further increases in stock prices.
One reason to be skeptical of such a large reduction is that Confusing signals to the marketMany will see this as a sign that the Fed is very worried that the economy is in a weaker state than it actually is. At the same time, supporters of Kamala Harris will no doubt tout this big rate cut as proof that the threat of inflation is a thing of the past. That, in turn, will invite political backlash from supporters of Donald Trump.
With a 25 basis point rate cut, the Fed A message of cautious optimism on growth and inflationThe Fed has signaled that it is more concerned about downside risks to growth and employment than upside risks to inflation, but remains wary of declaring the inflation threat over prematurely. As long as inflation remains moderate, we believe the Fed will want to proceed cautiously with rate cuts, letting the labor market determine the pace of any cuts.
So, What are the arguments for larger cuts? Well-known monetary policy “rules” suggest that the current federal funds rate is probably 2 percentage points too high, so a larger rate cut would bring the Fed closer to the levels recommended by the Taylor rule and others.
The problem is that the Fed has no reason to rush to the rules-based level. The labor market is showing signs of stabilizing, and inflation is only slowly falling, so the Fed could get there with a series of 25 basis point cuts. Reaching a 3% fed funds rate a month or two sooner, for example, probably wouldn't make much of a difference.So why not take things slow and steady?
