September 18 has been on the calendar for some time as the point at which the FOMC finally pulls the trigger on policy easing, with a first rate cut for four years. This comes after the biggest inflation surge since the 1970s and the worst global health crisis in over 100 years. But for the here and now, it’s all about the size of the first rate cut, what the updated economic projections and dot plot tells us about the easing cycle ahead and any guidance from Jerome Powell.
Money markets have yo-yoed a lot this year with over 150bps of Fed rate cuts priced in at the start of 2024 to close to less than one, months later. Just over 115bps is currently forecast by Fed Fund futures for this year with three remaining meetings. For this specific FOMC gathering, the odds have swung very recently to a half point reduction, which is now given a 65% chance by the CME FedWatch tool. However, consensus still sides with a smaller move.
Data mixed
Last week’s inflation data signalled a marginally faster than expected core CPI print, though some of the components responsible are not included in the Fed’s favoured inflation gauge, core PCE. The 0.3% core monthly reading appeared to tilt the balance in favour a smaller 25bps rate reduction.
This data came after the second soft labour market report with downward revisions in the headline NFP numbers getting increased airtime, though the figures weren’t as bad as some feared. The second part of the Fed’s mandate – full employment – is key for policymakers and may have played a part in the recent media reports. They include one from the Fed’s whisperer, Nick Timiraos at the WSJ, who put in play the bigger 50bps move by describing the Fed as having a dilemma, while former New York Fed President Dudley also touted a half-point reduction. That said, surprisingly, the last two Fed officials we heard from before the blackout avoided giving any concrete guidance after NFP.
Dot plot and economic projections
Wednesday’s meeting is one of the four, typically in March, June, September and December, in which the FOMC also publish their latest economic forecasts (Summary of Economic Projections or “SEPs”) and each member’s projections on the likely path of interest rates known as the “dot plot”.
The latter is likely to show three rate cuts in the median dot plot for 2024 from just the one previously in June, and 100bps in 2025. That is less than what is currently priced in by markets. There will likely be downward revisions to inflation and growth forecasts and an upward adjustment to the jobless rate for this year through to 2026.
Market reaction
With the odds of a 50bps cut now more likely, attention will be focused on the economic projections and dot plot. A deep cut at this late stage might make market pricing even more aggressive, creating disruption if economic data doesn’t point to an imminent slowdown. Traders may also see bigger rate cuts as the norm, no matter how the FOMC and Powell couch their commentary. Anything less dovish in the projections or dot plot could see the greenback rally, though Powell’s press conferences have tended to be relatively dovish this year.
A 25bps cut would be less than what markets have currently priced in. Powell is likely to want to tell markets that a series of rate moves are coming, with the door open to larger reductions if the data warrants more policy easing. Initial buying of the dollar may tail off as markets realise more policy easing is coming. Similarly, a stock sell off could ease if Powell is categorically dovish. That said, the poor messaging by Fed officials may be held against it going forward.