The U.S. central bank chairman, Jerome Powell, stated that the historic tightening of monetary policy is probably done as inflation declines more quickly than anticipated and that talks about lowering borrowing costs are starting to “come into view” as the Federal Reserve kept interest rates constant on Wednesday.

Following the conclusion of the Fed’s final policy meeting of the year, Fed Chair Jerome Powell remarked in a news conference that “people are not writing down rate hikes” in their most recent economic estimates.

According to him, rate rises were “not the base case anymore.” “That’s us thinking we’ve done enough,” he added.

“The Fed is done!” exclaimed Diane Swonk, chief economist at KPMG US, and if economic data continues evolving as it has, with inflation cooling alongside an economy that seems poised to slow but not crash, then “the Fed will be cutting sooner” rather than later in the year.

The change in perspective was quite dramatic; by the end of 2024, rates were predicted to decline by 17 out of 19 Fed members and to rise by none. Powell hinted at the fact that the central bank was now at the point where “both mandates are important,” with officials aware of the risk of “overdoing it” and forcing the economy into a faster than necessary slowdown. A measure of policymakers’ perceptions of the risks facing the economy also moved closer to balance.

Statutorily, the Fed is tasked with ensuring maximum employment and stable prices—two objectives that occasionally clash in the economy.

Powell stated that officials believed they were closing in on an elusive “soft landing,” with inflation reverting to the Fed’s 2% objective in an economy that is slowing but not collapsing and one in which unemployment is still low, following inflation’s explosion to a 40-year high last year.

“We are seeing strong growth that … appears to be moderating. We are seeing a labor market that is coming back into balance … We’re seeing inflation making real progress,” Powell told reporters. “These are the things we’ve been wanting to see … Declaring victory would be premature … But of course the question is ‘when will it become appropriate to begin dialing back?'”

After two years in which it first reduced the asset purchases it used to support the economy during the coronavirus pandemic and then, starting in March 2022, rapidly raised its benchmark policy interest rate from the near-zero level to the current range of 5.25%–5.50%, the Fed and investors will be occupied with this debate in the coming weeks and months.

Following the Fed’s most recent statement and policymakers’ revised quarterly economic projections, U.S. stocks surged. Powell’s press conference did not stop the market’s upward trend, with the S&P 500 index rising by roughly 1.4% and the Dow Jones Industrial Average reaching a record closing high. Treasury yields decreased and the value of the US dollar plummeted compared to a basket of currencies.

Futures contract traders that settle to the Federal Reserve’s policy rate are pricing in a 1.5 percentage point reduction in the policy rate by the end of 2024 and a start to rate cuts in March.

The revised estimates and Powell’s tone were a significant change for an organisation that has been hesitant to declare victory over inflation.

The forecast for headline personal consumption expenditure inflation is 2.8% at the end of 2023 and 2.4% at the end of the following year, both of which are close to the Fed’s 2% target.

With the unemployment rate expected to rise from the current 3.7% to 4.1%, the same rate predicted in September, and the economic growth expected to decelerate from an estimated 2.6% this year to 1.4% over 2024, that comes at a relatively low cost in terms of increased unemployment.

Powell stated, “So far, so good.”

Although authorities are still able to raise the Fed’s benchmark overnight interest rate in the upcoming months in the event that price pressures pick up again, that appears less and less likely given the recent inflationary trend, which has been gradually approaching the central bank’s target.

In fact, a few investors and analysts saw Wednesday’s events as signalling the official beginning of the Fed’s easing cycle.

The bond market quickly acted upon Powell’s advice. In essence, a rate cut was given to the open market when the yield on the 2-year Treasury note, which is strongly correlated with Fed policy rate expectations, fell by 30 basis points.

Furthermore, the yield on the 10-year Treasury note—which is crucial for determining mortgage rates and other important borrowing costs—has dropped by almost 1 percentage point over the past eight weeks, a move that is rarely observed outside of economic crisis.

“For a group that prizes the pricing of its policy intentions in the forward markets … they had to know that moving the median forecast … would be a bullish signal,” Steven Blitz, chief U.S. economist at TS Lombard, wrote in an analysis headlined “The Fed Eases.”

(Adapted from Reuters.com)

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