After many months of punditry and prognostication regarding the potential for the Federal Reserve to cut the federal funds rate in 2024, the agency finally did so at its September 17-18 meeting. The Fed lowered the target for the rate by 0.50%, or 50 basis points, to a range of 4.75% to 5.0%.
This amount was bit of a surprise. The markets had largely priced in a reduction of 0.25%, or 25 basis points, for the agency’s September meeting. Predictions had fluctuated wildly over the past month and a half regarding any potential for a 50-basis-point reduction. The decision to reduce the policy rate was not unanimous. For the first time since 2005, there was one committee member dissenting.
Focus on Employment
The Fed has a dual mandate—to keep inflation low and to support full employment. Since the agency’s last meeting, inflation had fallen faster than the Fed had anticipated, while the unemployment rate had risen more than expected.
With high inflation largely in the rearview mirror, the Fed appears focused now on its full-employment mandate. In his comments on September 18, Fed chair Jerome Powell indicated that the “balance of risks” had shifted—implying that supporting the job market has now taken precedence over fighting inflation. In addition, the Fed’s statement indicated that the committee remained “strongly committed to supporting maximum employment.” Powell emphasized that the slowdown in job growth was the key factor behind the decision to kick off the easing cycle with a larger-than-normal rate cut of 50 basis points, rather than 25 basis points.
The last Fed meeting before the September meeting was in July, but before the July unemployment report (which came out two days after the meeting ended) noted unusually weak job growth that month. On September 18, Powell said Fed officials might have started lowering rates in July if the report on had been available at the time. So, the 50-basis-point move, in part, appears to be about correcting an error. More importantly, this is sending a message that if the labor market deteriorates, the Fed will do more.
Fast or Slow?
The dot plot—which reflects where the various members of the Federal Reserve expect the federal funds rate to go during the next few years—shows more rate cuts are likely this year and during the next two years.
The main difference between the Fed and the market is velocity: How quickly will the Fed move to bring rates down to neutral? (The neutral interest rate is the rate at which the economy operates at full employment and capacity while maintaining a steady rate of inflation.)
The market believes a more accelerated approach has begun, while the Fed continues to expect a measured pace after this significant move to start the cycle. There is less consensus about future rate cuts for 2025 and 2026. The Fed is still “data dependent,” meaning that their forecasts are subject to change based on the economic information as it comes in.
Liz Ann Sonders, chief investment strategist at Charles Schwab, says, “The beneficial impact of rate cuts tends to be both amplified and nearer-term when the cutting cycle is not accompanied by a recession; with slow cutting cycles more rewarding to equities than fast cutting cycles.”
Economic growth has improved from the revised 1.6% rate in the first quarter. The latest update on second-quarter gross domestic product showed that the economy expanded at a solid 3% annual pace. Economic output has risen between 2.8% and 3.2% for five straight quarters for the first time since 2006, meaning things are in good shape. Estimates for third-quarter growth, which will be released in late October, are at 3%.
The September jobs report will come out on October 4 and the October jobs report will arrive on November 1. These numbers will influence whether Fed officials lower interest rates at a slow-and-steady pace or more quickly. The Fed’s next policy meeting is November 6-7, right after the U.S. presidential election.
The September jobs report is expected to show a healthy, yet moderating, labor market. Payrolls are seen to be rising by 146,000 jobs, based on the median estimate in a Bloomberg survey of economists. That’s similar to the August increase and would leave three-month average job growth near its weakest since mid-2019. The jobless rate probably held at 4.2%, while average hourly earnings are projected to have risen 3.8% from a year earlier.
Getting Personal: Mortgages, Loans, Debt
Lower borrowing costs will benefit millennials who are at a time in their financial lives when they are looking to buy homes, while lower interest on savings will hurt retirees who are more focused on maximizing the value of their accounts. However, one rate cut isn’t really going to make a big difference for most people.
As the Fed cuts rate, lower rates will move through mortgages and other loans. For mortgage rates, we have seen in recent months mortgage rates coming down because the market was expecting the Fed to cut rates in the last months of 2024. Mortgage rates, though, are still fairly high. They are more likely to continue to move down as the Fed continues to ease policy. This will help housing affordability. We are already seeing a jump in refinancing.
People paying off high-interest credit-card debt aren’t likely to benefit as much as those seeking to avoid high mortgage rates from the Fed’s rate cut. Credit card interest rates already tend to be well above other interest rates, and companies don’t reduce them as often. Thus, the rate cut is not going to benefit people carrying credit card debt.
As for car loans, lower interest rates can make them more affordable as rates continue to decline. With cars being more readily available, prices are less likely to rise much. Bank of America Securities estimates each point decrease in the Fed benchmark rate equates to a roughly $20 decrease in an average monthly payment for a new vehicle. Loans for new vehicles right now are averaging 7.1%, with used vehicle loans at a much higher 11.3%, according to Edmunds.com.
Recent signs of softening have raised concerns that the Fed is moving too slowly to lower rates. If rate cuts get more money flowing through the economy, that can translate to expansion for businesses, including through investments and hiring, which will benefit the labor market.
Conclusion: Next Moves
Whether the Fed can calibrate its rate cuts to achieve what economists call a “soft landing”—the policy coup of guiding an economy through a period of tight monetary policy to stifle inflation without jarring the labor market—will be one of the most important ways its actions will affect the average person.
Now that the Fed has begun cutting rates, the power of the macroeconomic dynamics to be the only driver of the market has diminished. Corporate fundamentals will now need to come into sharper focus, though expectations there are already ambitious.
Given this backdrop, investors should consider reducing ultra-short and money market positions in favor of locking in longer-dated rates. The equal-weighted S&P 500 Index may provide better risk-adjusted exposure than its market-cap-weighted counterpart.
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