Blackstone CEO: Expectations of interest rate cuts create animal instincts
Blackstone Chairman and CEO Steve Schwarzman expressed “absolute confidence” that the Fed will cut interest rates.
After spending nearly two years on a single-minded mission to stamp out spiraling inflation by sharply raising interest rates, the Federal Reserve finds itself facing a much more satisfying dilemma heading into 2024: knowing when to start cutting interest rates.
Inflation has fallen more quickly than Fed officials expected in the wake of the pandemic-induced price spikes, even as the economy and labor market remain surprisingly resilient.
At a two-day meeting starting Tuesday, the Fed is expected to keep its key short-term interest rate steady at a 22-year high of 5.25% to 5.5% for the fourth straight meeting. However, some economists believe the Fed will start cutting interest rates in March, meaning it may signal its intentions at this week's meeting.
Such a move would likely push the S&P 500 stock index, which hit a record high last week on the prospect of continued slowing inflation and federal interest rate cuts.
However, many leading forecasters say the central bank will keep its options open by emphasizing that it has raised interest rates without providing a signal that lower interest rates are imminent.
“The (Fed) will likely aim to keep the March cut on the table without sending a decisive signal,” David Merkel, an economist at Goldman Sachs, wrote in a note to clients.
Will the Fed cut interest rates in 2024?
Markets anticipating movements in the federal funds rate believe a March rate cut is imminent, believing there is about a 46% chance of such a move. Finally, markets expect six interest rate cuts this year to a range of 3.75% to 4%, double the amount the Fed expected last month.
Although Merkel believes the Fed will begin tapering in mid-March, he says Fed Chair Jerome Powell will likely note that officials will base their decision on two additional months of inflation data before that meeting.
Economists broadly agree that the Fed will almost certainly remove from its post-meeting statement the assertion that “the extent of any additional (interest rate increases)” will depend on the lagged effects of previous rate hikes and economic and financial developments. In other words, the statement should reinforce Powell's comment in December that interest rate increases are likely to end.
Alternatively, the Fed may signal any “adjustments” to its key interest rate, suggesting a cut is at least as likely as a rate hike, Barclays wrote in a note to clients.
However, determining the right time to do a complete 180 and start cutting rates is much more difficult.
Why does the Fed cut the federal funds rate?
Traditionally, the Fed cuts interest rates to destabilize an economy that is slowing or in a recession. This is not the case, at least not yet. Although higher interest rates made mortgages and other consumer borrowing more expensive, the economy grew by 3.3% in the fourth quarter and by 2.5% throughout 2023 as consumer spending remained strong.
Many economists expect growth of just under 2% this year, slightly below the pre-pandemic pace, although some forecasters still believe a mild recession is likely.
As a result, there is no urgent need for the Fed to cut interest rates, Merkel says.
What is the inflation rate now?
Meanwhile, the Fed's preferred measure of inflation – the personal consumption expenditures index – rose 2.6% annually last month, down from a high of 7% in the summer of 2022. It is a core measure that excludes volatile food and energy that the Fed monitors. . It fell closely to 2.9%, the lowest level since March 2021.
While these readings are still above the Fed's 2% target, core inflation each month has remained below 2% year-on-year since June, Barclays wrote in a note to clients.
“Based on these actions, it appears that the (Federal Reserve’s) mission of returning inflation to 2% has been accomplished,” Barclays said.
Barclays says this means that after adjusting for inflation, the Fed's key interest rate is more restrictive than the Fed would like. Then, in theory, the Fed should reduce it to avoid crippling the economy too much to ensure inflation remains low.
Will inflation rise again?
On the other hand, there are risks that inflation has not yet been overcome.
Barclays says one of the main reasons inflation fell more quickly than expected is that average wage increases – which fuel inflation – have slowed as rising immigration has boosted the pool of available workers. But there are signs that the increase in labor supply has peaked. Last month, the workforce shrank by 676,000 and annual wage growth rose to 4.1% from 4% the previous month.
Barclays says there is also a risk that the supply chains that drove inflation in the early days of the pandemic could flare up again due to the military conflict in the Red Sea.
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Although personal consumption spending inflation is close to the Fed's target, a different measure of inflation, the Consumer Price Index, rose 3.4% annually last month, and the core CPI rose 3.9% – still well above the Fed's target. Federal.
Economists say the Fed, in turn, is likely to take a wait-and-see approach this week.
The Fed “will not intervene when it expects a cut,” Ryan Sweet, chief US economist at Oxford Economics, wrote in a research note.
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