The Federal Reserve’s fight against inflation is showing signs of progress, and that could open the door for central bankers to finally lower interest rates in 2023. However, rate cuts may not provide the economic jolt that investors are hoping for.
After nearly two years of historically aggressive rate hikes aimed at taming inflation, investors have been pleading for the Fed to pivot and start cutting rates instead. The recent cool-down in inflation has boosted hopes that the Fed’s tightening cycle may finally end this year.
In fact, interest rate futures are now pricing in a 60% chance of a quarter-point rate cut by May 2023, and four total cuts by year-end, according to CME Group’s FedWatch tool. Just a month ago, the odds of a May cut were only 29%.
However, minutes from the Fed’s latest meeting did not indicate that cuts were imminent. Officials stated they were comfortable keeping policy “restrictive” to maintain control over inflation. Rate cuts are still unlikely before the second half of 2024, according to most Fed projections.
It’s important to understand why the Fed cuts rates in the first place – it’s not simply to boost the stock market. Rate cuts are usually a response to signs of economic slowdown. If the Fed cuts aggressively, as some forecasts suggest, it would likely be because a recession is already underway.
On top of that, there are concerns about the resilience of consumers, a key pillar propping up the economy. Retail giants like Walmart and Target have noted a pullback in consumer spending. This comes just as we enter the critical holiday shopping season, when consumer activity normally accelerates.
After blowing through pandemic savings stockpiles, households are racking up record credit card debt and falling behind on bills. This pullback in consumer strength, even as the Fed keeps rates elevated to cool inflation, points to a bumpy road ahead.
In short, while rate cuts will eventually provide relief, the economy may have to endure significant pain first. Investors banking on an imminent policy pivot to jumpstart a new bull market are likely to be disappointed. The path to rate cuts is filled with obstacles, and they may bring as many headaches as they relieve.
Patience and caution remain prudent, as the Fed navigates the delicate task of engineering a soft landing amidst conflicting economic crosswinds. Rate cuts are coming, but they aren’t a cure-all.
I hope this will not only inform but also provide a thought-provoking analysis, urging readers to look beyond the headlines and understand the intricate mechanics of market movements.
by Steve Macalbry
Disclaimer: This article is intended for informational purposes only. It should not be considered financial or investment advice. We do not hold any form of equity in the securities mentioned in this article, if any. Always consult with a certified financial professional before making any financial decisions.