Summary
The Federal Reserve decided on Wednesday, as expected, to leave the key interest rate unchanged at its highest level in 22 years. The Fed also issued new forecasts indicating that officials at the central bank expect three rate cuts next year.
Powell’s Remarks
Federal Reserve Chairman Jerome Powell stated at a press conference that it is likely that rates are at or near their peak during this tightening cycle. Officials at the Fed are now discussing when to cut interest rates, but do not rule out the possibility of further increases in the future.
Impact of the Decision on Markets
The Dow Jones Industrial Average rose by 1.4%, gaining over 500 points to reach 37,000 points for the first time and closing at 37,090 points. The NASDAQ and S&P 500 indices also rose by 1.4%, closing at their highest levels since January 2022. Government bond yields declined, with ten-year bond yields falling to their lowest level in five months at around 4.01%.
Market Expectations for 2024
Market optimism regarding the possibility of an interest rate cut in 2024 increased during the Federal Reserve Chairman’s press conference. Futures trading for the Fed fund indicates that market participants estimate a 75% chance that the Fed will begin cutting rates at its March meeting, compared to about 50% before the Fed announced its decision on interest rates. The market shows a 98% likelihood that the interest rate will be cut by at least 100 basis points by the end of 2024, with many expecting much deeper cuts.
Fed Officials’ Forecasts
Fed officials expect the U.S. economy to achieve a “soft” landing from the recent sharp rise in inflation, rather than a collapse that typically follows previous cycles of rapid price hikes and Fed interest rate increases. Meeting participants expect GDP to grow at a moderate rate of 1.4% in 2024, significantly down from the strong growth rate of 5.2% in the third quarter of this year and below previous forecasts of 1.5% in September. Unemployment is expected to rise to 4.1% from the current rate of 3.7%, with no expectations of mass layoffs as were anticipated earlier this year.
Comments from the Former Federal Reserve Chairman
Former New York Fed President William Dudley stated after the press conference that it is clear the Fed has finished raising interest rates. He said, “The question is just the timing of rate cuts and how much.” Dudley cautioned that there are things that could happen whether the Fed continues to raise rates for an extended period or cuts them early. He also noted that the market itself may ease financing conditions early, which would stimulate the economy and make it difficult for the Fed to cut rates as quickly as the market expects. He mentioned that the market might be overly optimistic in assuming that there will be very large rate cuts next year.
Interest Rate Cut Expectations
Powell reaffirmed, as he has done several times in previous press conferences, that the Fed is attentive to the risks associated with significantly reducing inflation. He stated that rate cuts will come at some point before inflation reaches 2%. He said, “It takes time for policy to affect the economy and impact economic activity and inflation.”
Impact of Rate Cuts on Deposits and Investments
The Fed’s signal regarding rate cuts has implications for both borrowers and savers. This year, depositors have been offered very high yields on certificates of deposit and high-yield savings accounts, but these days may be coming to an end soon. Robert Frick, a corporate economist at Navy Federal Credit Union, said, “It has become clear that there will be no further rate increases in this cycle.” He added, “This is a call for savers to lock in the current high interest rates and other rates in safe vehicles like government securities. These rates are likely to only decline from here, and since they are above the rate of inflation, savers can achieve real returns at this time.”
Action
Stocks Rise Due to Powell’s Statements
The rise in stocks contrasts with the historical pattern. Typically, markets move in the opposite direction when the current Federal Reserve Chairman speaks at a press conference after the initial statement, as confirmed by a study conducted by researchers at Harvard University earlier this year.
Stock Prices Rise and Bond Yields Fall
U.S. stocks rose after the Fed announced its decision to keep interest rates steady and issued forecasts indicating that the central bank expects three rate cuts next year. After stocks traded sideways for most of the session before the announcement, the S&P 500, Nasdaq Composite, and Dow Jones Industrial Average all rose by 0.6% about 15 minutes after the announcement. All three markets are at their highest levels for the year, amid hopes that the Fed will be able to begin lowering interest rates soon. Treasury yields fell, with ten-year bond yields dropping to 4.09%, down from around 4.15% before the announcement. Ten-year bond yields were at their highest level in October last year at 5%.
Federal Reserve’s Views Align with Market Perspectives
The Federal Reserve’s perspective on interest rate hike expectations is aligning with the outlook of market participants. Markets have priced in a very slim chance of another rate hike for a long time. Ian Shepherdson, chief economist at Pantheon Macroeconomics, said, “The Fed is catching up to the reality that the credibility of its threats to raise rates has been close to zero in the markets for some time.”
Relief for Potential Home Buyers
The Fed’s new position may bring some relief to potential home buyers awaiting a decline in mortgage rates, according to one economist’s forecast. Mike Fratantoni, chief economist at the Mortgage Bankers Association, said, “This is good for the housing and mortgage markets. We expect this course of monetary policy to support a continued decrease in mortgage rates, right in time for the housing market in spring.”
Fed Officials Discuss Timing of Rate Cuts While Keeping Door Open for Increases
Earlier this month, Powell stated that speculation about interest rate cuts was “premature.” But that is no longer the case: in this week’s meeting, members of the Fed’s policy committee discussed when they should start cutting interest rates, and Powell noted that committee members wanted to acknowledge that they do not expect further rate increases at this time, but they “did not want to remove the possibility of further increases from the table,” according to his statement in response to a question.
Expectations of Rate Cuts Before Reaching Target Inflation
As he has in several previous press conferences, Powell reiterated that the Fed is very mindful of the risks associated with reducing inflation. He stated that interest rate cuts would come at some point before the inflation rate reaches 2%. He said, “It takes time for policy to affect the economy and to impact economic activity and inflation.”
Powell’s Balanced Statement at the Opening
Federal Reserve Chairman Jerome Powell began his press conference with a balanced statement. He said, “Inflation has decreased from its peak, and this has come without a significant increase in the unemployment rate, which is very good,” adding, “But inflation is still very high, and there are no guarantees of continued progress in reducing it, and the path forward is uncertain.” He also noted that the full effects of the monetary policy tightening have not yet been felt.
Officials Do Not Expect Need for Further Rate Increases
While the official statement from the Fed’s monetary policy committee affirmed that the central bank is prepared to raise the interest rate again if necessary, officials did not foresee a need for any additional increases, according to the economic projections summary.
Markets
Betting on Lower Interest Rates
Market participants are now pricing in the likelihood of a
Source: https://www.investopedia.com/fed-meeting-live-with-no-change-in-key-rate-expected-all-eyes-on-powell-projections-8415317
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