The Fed is very clearly worried about inflation, raising the 2025 forecast to 2.5% (from 2.1% just two months ago). I think Fed officials might be overreacting to inflation just like they did in the spring.
“We believe our policy is working. Growth this year has been solid. The US economy has been remarkable. We want to keep that going. I expect another good year next year.” Powell delivered 1.00% of cuts this year, getting off the brakes and giving the Fed flexibility to react as the data comes in. Overall, we should generally be happy with the Fed easing 1% this year.
But…the Fed cut in half the number of cuts for next year to 0.50%. Removing two cuts is akin to hiking.
And by raising the Core PCE forecast, haven’t they actually lowered the bar for more than 2 cuts?
Is the Fed done cutting?
- “We expect to “slow the pace of cuts,” but not stop altogether
- The “longer run” Fed Funds is 3.0%, which is up from 2.5% a year ago but still substantially below today’s levels
- This also assumes no deterioration in the economy
- There’s a 41% probability that Fed Funds is below 4% at year end 2025
- The odds of a cut don’t exceed 50% until the June ‘25 meeting
- A year ago, the Fed projected 0.75% in cuts this year and they ended up with 1.0%
Could you Hike?
- “That doesn’t appear to be a likely outcome. At 4.3%, that’s meaningfully restrictive.”
Neutral Rate
- “lol”
- “All we know for sure is that we are 1.00% closer than we were earlier in the year and we should proceed cautiously.”
Inflation
- 2025 projection for Core PCE was revised up to 2.5% from 2.1% in September
- “Core PCE falling to 2.5% next year would still be significant progress”
- “We’re confident in the story about why inflation has come down”
- He also stressed that labor is not creating inflationary impulses
- “We have had a long string of data with inflation coming down gradually, but we still have some work to do”
Labor
- “Unemployment is the same as what it was in July and job creation has been steady”, characterizing the labor market as moving more sideways from here
- “We think the labor market is cooling in a significant way”
- “We think the risks are roughly in balance and we think the labor market is in solid shape and the cooling process is gradual.”
- He stressed they want to avoid a further deterioration in the labor market
Why didn’t you use the word “recalibration”?
- “We’re not renaming the phase yet, but we may get around to that.”
- “We are in a new phase of the process”
- “We are significantly closer to neutral but still meaningfully restrictive. It’s appropriate to proceed cautiously.”
How much did potential Trump policies influence these projections?
- Some FOMC members attempted to incorporate it, some didn’t, and some didn’t say
My Takeaway
Just like the Fed overreacted to a couple of inflation pump fakes in the spring, they could be doing the same thing today. Powell flat out said the increase in Core PCE can in some part be chalked up to “lapping” last year’s rapidly falling data (aka base effect).
If inflation is the reason they dialed back 2 cuts next year, we might see the pendulum swing again.
- if the labor market deteriorates instead of moving sideways, we have a problem.
- if the Fed projects 2025 Core PCE at 2.5%...with 2 cuts…what happens if the shelter component pushes us below that level?
- Does that mean more than 2 cuts?
Like I said at the beginning, by raising the Core PCE forecast, haven’t they actually lowered the bar for more than 2 cuts?
Rates are up across the curve, with the T10 testing the resistance level of 4.50%. If we break that, there’s minor resistance around 4.7% but the next real stopping point is 5.02%.
Go ahead and put me down for more than 2 cuts in 2025.
We get GDP tomorrow and Core PCE Friday.
Grok prompt: “Broker POV at Jay Powell’s press conference today.”
