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Jackson Hole: Powell pivots to rate cuts

27 August 2024 Sebastian Mullins, Head of Multi-Asset and Fixed income at Schroders Australia
Sebastian Mullins

Sebastian Mullins

Fed Chair Jay Powell confirmed the “time has come” for policy easing. His remarks have meant markets continue to price in a substantial number of rate cuts which we believe are excessive.

Jerome Powell’s highly anticipated speech at the Federal Reserve’s (Fed) annual Jackson Hole summit provided key forward guidance on Friday. He acknowledged that there had been an “unmistakeable” cooling in the labour market, adding that policymakers had “ample room” to respond to a more pronounced deterioration. However, he stressed that the timing and pace of cuts would hinge on “incoming data, the evolving outlook and the balance of risks.”

Markets have interpreted his comments as being slightly dovish, with Powell stating that he does “not seek or welcome” a further cooling in labour market conditions. This has left the door open to a 50-basis point (bps) cut for September. Futures now point to a one-in-three chance of this occurring, compared with roughly 25% beforehand.

Such a move would be a mistake. It would muddy the messaging on the subsequent pace of easing at best, and at worst it would fuel fears of a recession. From our perspective, the US economy is slowing but remains solid. And given the uncertainty about where R-star lies (R-Star being the real interest rate at which the economy is in equilibrium), a cautious and data-dependent approach to removing policy restraint is warranted instead.

Schroders’ view of US rate trajectory
Our view remains that the Federal Open Market Committee (FOMC) will start with a 25bps reduction in September, assuming the August jobs figures rebound as the hurricane impact unwinds, with rates subsequently lowered at a quarterly pace.

The extent of this will be determined by how the economy shapes up, but our projections suggest 100bps of easing by mid-2025 should serve to safeguard the economic expansion whilst keeping inflation contained.

But Powell’s comments today suggest that jitters about the labour market could convince the committee that rates need to be taken to a less restrictive setting more quickly. Our updated global growth forecast, which will be published next week, includes such a scenario in which central banks deliver the aggressive rate cuts that have been priced into markets. Our analysis suggests this would cause underlying price pressures to re-emerge and would force the FOMC to restart hiking rates.

Consequently, the committee should hold their nerve at this critical juncture.

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