Federal Reserve Lowers Interest Rate, Signals Caution on Future Cuts
In a widely anticipated move, the Federal Reserve has lowered its key interest rate by a quarter percentage point, marking the third consecutive reduction. The overnight borrowing rate now stands at a target range of 4.25%-4.5%, a level last seen in December 2022.
A Cautious Approach
While the decision itself was expected, the main question was what the Fed would signal about its future intentions. With inflation holding steady above target and economic growth remaining solid, the Fed is taking a cautious approach. According to the “dot plot” matrix, officials expect to lower rates only twice more in 2025, a significant reduction from previous projections.
Interest Rate Projections
The Fed’s projections indicate two more rate reductions in 2026 and another in 2027. Over the longer term, the committee sees the “neutral” funds rate at 3%, a slight increase from previous estimates. Chair Jerome Powell emphasized the need for caution, stating that the Fed has lowered its policy rate by a full percentage point from its peak and is now significantly less restrictive.
Market Reaction
Stocks sold off sharply following the Fed announcement, with the Dow Jones Industrial Average closing down over 1,100 points. Treasury yields soared, and futures pricing pared back the outlook for cuts in 2025.
Economic Projections
The Fed has revised its projection for full-year 2024 gross domestic product growth to 2.5%, half a percentage point higher than previous estimates. However, officials expect GDP to slow down to its long-term projection of 1.8% in subsequent years. The committee also lowered its expected unemployment rate this year to 4.2%, while headline and core inflation are expected to remain above target.
Inflation Concerns
Despite inflation holding above target, the Fed is wary of keeping rates too high and risking an unnecessary slowdown in the economy. Officials are closely monitoring economic growth, which is projected to rise at a 3.2% rate in the fourth quarter, and the unemployment rate, which has hovered around 4%.
Fiscal Policy Impact
The Fed will need to navigate the impact of fiscal policy under the new administration, which has proposed tariffs, tax cuts, and mass deportations that could be inflationary and complicate the central bank’s job. Chair Powell emphasized the need to take a careful assessment of these policies before making any decisions.
Rate Cuts and Economic Growth
The Fed’s rate cuts are an effort to recalibrate policy as it does not need to be as restrictive under current conditions. Chair Powell stated that the economy is in a good place and policy is well-positioned. Despite aggressive moves lower, markets have taken the opposite tack, with mortgage rates and Treasury yields rising sharply during the period.
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