Fed stays its course

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US Federal Reserve (Fed) cuts rates as expected; vows to maintain independence

Just two days after the tempestuous 2024 US election, The Federal Open Market Committee (FOMC) stayed its course, cutting its target policy rate range by 25 basis points (bps) — a decision consistent with market pricing heading into the meeting. Economic data has trended in the right direction to justify further policy accommodation, though the Fed will likely want to preserve some flexibility over the next couple of meetings as financial conditions evolve in response to the US presidential election outcome. In his post-meeting press conference, Powell declined to comment on potential policy shifts from the new Trump Administration, consistent with protocol. He did, however, vow to maintain independence regardless of any political pressure including requests for his dismissal.

Economic data inch closer to Fed’s mandate

The labor market has softened in response to past tightening of monetary policy and is probably close to the NAIRU (non-accelerating inflation rate of unemployment) that is coveted by Fed officials. Storms and strikes contributed to a weaker-than-expected payroll report in October, but the unemployment rate held steady at 4.1 percent, consistent with the range provided in the Fed’s most recent longer run projections. We continue to expect the unemployment rate to move higher over the coming quarters, but we recognize that the outlook for both labor supply and demand may change based on expected policy changes from the new Administration.

The progress on inflation has stalled somewhat, with the Fed’s preferred gauge — core personal consumption expenditures (PCE) –— printing at 2.7% last month, still stubbornly above the Fed’s 2% target. Services prices rose faster than goods prices and spending data continue to suggest a resilient consumer as the lagged impact of past Fed rate increases works through the economy. Recent revisions to US growth and income data (especially those to the National Income and Product Accounts from the Bureau of Economic Analysis) also suggest the consumer is probably in better shape than we expected based on prior data. The policy tightening has had a more acute effect on the housing market and the moderating of rental prices should continue to put downward pressure on inflation even if the Fed continues to ease policy as I expect.

Trump policies likely to introduce upside inflation risks

President-elect Trump campaigned on restrictive immigration policy and higher tariffs; these policies could create a more inflationary environment in 2025. Markets have begun to price this risk; breakeven inflation rates (BEI) increased in recent weeks as Trump gained in the polls and shot higher after the election result. While it may take some time for any policy changes to work their way through the economy, expectations can eventually transition into reality. There is also precedent for the Fed to incorporate BEI in its assessment of the inflation outlook, and a further ascent may require an adjustment to monetary policy, possibly including rate hikes later next year if inflation and growth prove to be stronger than currently expected. When Powell was asked specifically about the possibility of hikes next year, he noted that they are not taking anything off the table at this point given the increased uncertainty surrounding the economic outlook.

Sanctity of Fed independence under threat?

The Fed faces a challenging road ahead. If inflation accelerates next year, the central bank may be inclined to guard against a wage price spiral by hiking policy rates. Fingers may then be pointed at the Fed should a material growth slowdown or recession ensue. Trump has been adamant in the past that the White House should play a larger role in setting monetary policy and there could be pressure to sway those decisions in 2025.

I am confident that Chair Powell will continue to conduct monetary policy with the pursuit of achieving the Fed’s mandate of stable prices and full employment, independent of any political influence. His current term ends in May 2026, at which point Trump will likely appoint a successor, subject to Senate approval. I’ll be watching to see whether those appointees are more politically motivated than academically oriented. While Republicans gained a majority in the Senate in this week’s elections, the outcomes of a few races have yet to be decided. Those results could have important implications for not only the next Fed Chair, but the future ideology of the FOMC.