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Update at 12:48 PM ET: Adds Goldman Sachs’ rate-cut expectations in 13th and 14th paragraphs.
Federal Reserve Chair Jerome Powell said on Friday that it’s time to adjust interest rates as inflation gradually fades and the labor market weakens, signaling a September cut. The assessment clearly pleased investors as the three major U.S. equity averages posted solid gains in midday action.
“It’s the mirror image of 2022, when the Jackson Hole speech crushed a summer rally,” said David Russell, global head of Market Strategy at TradeStation. “This keeps a tailwind at the market’s back into year-end, making it harder to expect a retest of this month’s lows.”
Powell “came out swinging today with a litany of dovish signals,” Russell added.
By contrast, in 2022 Powell warned that the central bank could cause some pain in ratcheting up interest rates to bring down inflation.
Ted Rossman, senior industry analyst at Bankrate, noted Powell’s shift of attention to the labor market, rather than its laser-focus on inflation for the past couple of years. “Powell signaled that the job market has weakened, and while it’s still in pretty good shape, the Fed doesn’t want it to get any worse,” he said. “Rate cuts are coming, almost certainly to begin next month, although the pace and depth of these cuts in the months and years to come remains uncertain.”
Bill Adams, chief economist at Comerica, noted the shift from a year ago. “Powell emphasized that the Fed now sees upside risks to inflation as balanced by downside risks to the job market,” Adams said. “This is a change from a year ago when the unemployment rate had just touched a half-century low, inflation was coming off a generational high, and the Fed was singularly focused on inflation.”
How the policymakers view the labor market is important, said Fitch Ratings Chief Economist Brian Coulton. “There does not seem to be a serious concern about the risk of an imminent recession and a wave of job losses — i.e. the sort of concerns that could justify rapid rate cuts,” Coulton said. “Rather, it’s about the diminishing threat of elevated wage growth keeping inflation too high.”
That contributes to confidence that disinflation will continue and some easing of the Fed’s restrictive policy is warranted, he added.
Evercore ISI’s Krishna Guha views Powell’s speech as consistent with a base case of a string of 25-basis-point cuts. “But while he did not explicitly reference the ‘size’ of cuts, ‘pace’ incorporates the possibility of moving faster than 25-bp per meeting,” Guha wrote in a note to clients.
He sees “a reasonably low bar for 50s under risk management principles.”
Comerica expects the Fed to cut its policy rate by a quarter of a percentage point at each of its next four meetings — September, November, December, and January. “A half percentage point cut at the September meeting is unlikely but possible if the unemployment rate rises further in the August jobs report’s release on September 6,” he noted.
RSM’s forecast assumes the Fed will implement 25-bp cuts at each of its next three meetings, “and continue those cuts until it gets to somewhere near 3.25%,” Joseph Brusuelas, RSM US’s chief economist, wrote in a note.
Goldman Sachs economists led by Jan Hatzius see three consecutive 25-bp cuts, based on their expectation that the August jobs report will strengthen from July’s weak print. But they “think that a 50bp cut would be likely if the employment report is instead soft again.”
“Powell’s speech today — in particular his comments on the labor market and his reiteration that the FOMC has ‘ample room to respond to any risks we may face’ — reinforces our view that the FOMC’s tolerance for further signs of softness in the labor market has run out and that it would be quick to act more aggressively if the labor market cools further,” Hatzius and colleagues wrote.
Brusuelas believes that “Powell and other Fed members will need to lay out the path of monetary policy in the coming year to shape investor expectations and reduce market volatility.”
He expects that the Fed will reach RSM’s estimate of the neutral rate — somewhere between 3% and 3.5% — over the next nine to 12 months.
“The risk here is that the fiscal path next year following the presidential election in November may result in varying inflationary pressures that could require the Fed to slow or even reverse that policy path,” RSM’s Brusuelas said.
