The U.S. Federal Reserve is set to announce a pivotal monetary policy decision on September 18, 2024, at 11:30 a.m. IST, marking the first rate cut in four years. With inflation seemingly under control and economic concerns shifting, all eyes are on the Fed as it deliberates on cutting its benchmark interest rate—a decision that could reverberate through the global economy.
But is this decision as monumental as previous rate cuts?
The historical context of previous rate cuts suggests that each occurred in response to a major financial crisis:
• 2000–2001: The Fed slashed rates during the Dot-com bubble collapse, which triggered widespread losses in the tech sector and led to economic turmoil.
• 2007–2008: The Subprime Mortgage Crisis forced the Fed to drastically reduce rates to stabilize the economy.
• 2020: The onset of the COVID-19 pandemic paralyzed global economies, leading to another emergency rate cut.
However, in 2024, there is no obvious financial crisis driving the Fed’s decision—at least, not yet.
What Does the Fed Cut Mean?
The Fed is expected to lower the Federal Funds Rate, which currently stands at a 23-year high of 5.25%-5.50%. This would be the first rate cut since March 2020. While the magnitude of the cut remains uncertain, there is increasing speculation around a 50 bps decrease, even though the Fed typically implements 25 bps cuts.
According to the CME FedWatch Tool, there is a 65% probability of a 50 bps cut and a 35% probability of a 25 bps cut. This indicates that while markets are leaning towards a more aggressive reduction, a smaller cut could also be on the table.
Why Now? Inflation and Employment Data
The economic backdrop provides significant context for this decision. The headline annual inflation rate in the U.S. slowed for a fifth consecutive month, hitting 2.5% in August—the lowest level since February 2021. Similarly, the annual core inflation rate stood at 3.2%, marking a three-year low. The Fed’s preferred gauge for inflation, the core PCE (Personal Consumption Expenditures) rate, has remained stable at 2.6% for three consecutive months, further signaling that inflation is under control.
However, the unemployment rate has edged up to 4.2% as of August, and monthly payroll growth has slowed throughout 2024. This softening labor market has likely prompted the Fed to reconsider its policy of holding rates at elevated levels.
Additionally, quarterly economic projections for both the economy and interest rates are on the Fed’s agenda, and traders have priced in more than a full percentage point of rate cuts for the remainder of this year.
A Long Time Coming: Why Now?
The Fed’s current target range for interest rates, 5.25% to 5.5%, has remained unchanged for over a year, as the central bank took a “wait and see” approach while dealing with inflation. Historically, rate cuts have been associated with economic distress, but today’s situation is different. With inflation largely under control, the focus has shifted toward managing a cooling labor market and ensuring the economy avoids a “hard landing.”
This chart of the Fed’s rate history demonstrates how unusual the current environment is. Unlike previous rate cuts, which were necessitated by crises such as the Dot-com bubble, Subprime Mortgage Crisis, and COVID-19 pandemic, this one is not being driven by an evident financial emergency. The absence of a crisis makes this decision particularly intriguing.
While the Fed’s upcoming rate cut marks a significant departure from its recent stance, the broader question is whether it signals the start of something bigger or is just a part of the natural ebb and flow of economic policy. Given the anticipation surrounding this decision, it is bound to make headlines, but the long-term impact will depend on how the Fed navigates the delicate balance between inflation control and economic growth.
This rate cut, while important, may not have the same “earth-shattering” implications as past cuts. But with the U.S. economy at a delicate juncture, it may set the stage for further economic adjustments in the near future.
