Fed has a rate cut plus a bunch of other things on its plate this week

The easy part for the Fed on Wednesday will be announcing the widely anticipated rate cut when it wraps up its two-day policy meeting. The hard part will be dealing with other details that pose significant challenges to policymaking these days.

Markets give an almost 100% chance that the Federal Open Market Committee will approve a second consecutive quarter-point, or 25 basis point, cut in the federal funds rate. The overnight lending benchmark is currently targeted at 4%-4.25%.

Beyond that, policymakers will likely discuss the future path of reductions, the challenges posed by a lack of economic data, and the timeline for ending the drawdown in the asset portfolio of Treasuries and mortgage-backed securities, among other issues.

Underlining all these negotiations will be growing disagreements about what the future holds for monetary policy.

“They’re at a point in the policy cycle where there’s a real disagreement between people who think we’re probably going to cut rates but I’m not ready to cut again yet, and people who think now is the time to do more, even though there are risks,” said Bill English, a Yale professor and former director of monetary affairs at the Fed. “There is disagreement between those who want to cut now and those who want to wait and see a little more.”

Judging by recent statements and prevailing sentiment on Wall Street, newly appointed Governor Stephen Miran is likely to balk in favor of a larger cut, as he did at the September FOMC meeting.

Also present were regional presidents Beth Hammack of Cleveland, Lorie Logan of Dallas and St. Jeffrey Schmid of St. Louis has expressed reluctance to go further on the cuts, but it remains to be seen whether they will vote against the cuts this week. Miran, who wanted only a half-point cut, opposed the committee’s 11-1 vote for a quarter-point cut last month.

What will remain is to try to bridge the gap. Chairman Jerome Powell expressed concern about the state of the labor market and implicitly approved the October cut in a recent speech.

Investors will look to the central bank governor, who leaves office in May 2026, for guidance on prevailing sentiment.

“I would expect him to try to walk a middle path rather than reaching out in December,” English said, referring to the next policy meeting. he said. “I don’t think he wants to get stuck with a rate cut in December. But on the other hand, he seems concerned about the outlook for the labor market and real activity, so he doesn’t want to appear like a hawk.”

According to CME Group’s report, markets are now almost certainly pricing in a December cut. FedWatch So it will take a lot to stop Wall Street from predicting further easing from the Fed.

Worries about jobs

One of the biggest reasons why officials are in a bearish mood is concerns about the labor market. Despite the lack of data, there are clear signs that inflation is slowing, even if state-level unemployment claims and layoffs do not appear to be accelerating, as they are still continuing despite the federal shutdown.

Luke Tilley, chief economist at Wilmington Trust, said employment concerns could actually cause the Fed to cut well into 2026.

“We expect 25” [basis points Wednesday] “Then again in December and then again in January, March and April,” Tilley said. “Then that brings them down to what we think of as the neutral range of 2.75% to 3%.”

In September, Fed officials indicated, via a “dot plot” of individual members’ expectations, that they would not reach a rate that neither pushes nor constrains growth (the so-called “neutral” rate) until 2027, and even then that rate would be a quarter point above where Tilley sees it.

But he thinks the Fed will have no choice but to respond to labor market weakness, especially as it challenges the surprisingly strong economic growth seen in the second half of this year.

Even though inflation remains well above the central bank’s 2% target, employment concerns are more of a focus for the Fed. The annual inflation rate, as measured by the consumer price index, remained at 3% in September, the Bureau of Labor Statistics reported last week, in the only official data released during the shutdown.

Lack of data problem

Beyond the CPI report, central bankers face additional challenges from the data blackout that accompanied the government shutdown.

“It’s hard to make policy to achieve two goals when you don’t get data on at least one of them,” Tilley said, referring to the Fed’s dual mandate to maximize employment and keep prices steady and the absence of a September nonfarm payrolls report due to the shutdown.

“I expect this to be conveyed as more uncertainty about the path forward, that they should be prepared to change and hold rates if necessary, or lower rates more quickly when they finally get data,” Tilley said.

Finally, markets will be looking for more definitive answers about when the Fed will stop shrinking its $6.6 trillion balance sheet, mostly comprised of Treasuries and mortgage-backed securities. The process, nicknamed quantitative tightening, or QT, required that proceeds from maturing securities be allowed to roll over rather than be reinvested as usual.

In a recent speech, Powell noted that the time is nearing the point where the Fed will want to stop QT. While financial conditions are still largely solid, there have been some small signs of short-term markets tightening recently. With the Fed’s overnight funding facility nearly exhausted, officials are likely to signal this week that QT is in its final stages.

Market commentary was divided on whether the Fed would announce the actual end of the program or signal a future date when the program would end.

“There are signs that they are nearing the bottom, so to speak, in terms of going through ample reserves and actually getting some tightness and liquidity. So I expect an announcement, if not action,” Tilley said.