WASHINGTON – The Federal Reserve cut its benchmark interest rate by a quarter of a percentage point on Wednesday, the third straight cut and a warning that warned of more cuts in the coming years.
In a move widely expected by markets, the Federal Open Market Committee cut its federal funds rate to a target range of 4.25% to 4.5%, back to the level seen in December 2022, when interest rates rose.
While the decision itself caused little concern, it was mostly about what the Fed would signal about its future intentions, given that inflation is consistently above target and economic growth is quite solid – conditions not normally associated with easing accompany monetary policy.
Read what changed in the Fed statement.
With the 25 basis point cut, the Fed indicated it would likely cut only twice more in 2025, according to the closely watched “dot plot” matrix of individual members' future interest rate expectations. The two cuts suggested the committee's intentions were halved when the act was last updated in September.
Assuming quarter-point increases, officials have announced two more cuts in 2026 and another in 2027. In the longer term, the committee expects the “neutral” key interest rate to be at 3%, 0.1 percentage points higher than in the September update, as the level has gradually fallen higher this year.
“With today's action, we have cut our key interest rate by a full percentage point from its peak, and our monetary policy stance is now significantly less restrictive,” Chairman Jerome Powell said at his post-meeting press conference. “We can therefore be more cautious when considering further adjustments to our key interest rate.”
“Today it was a closer decision, but we decided it was the right decision,” he added.
Following the Fed's announcement, stocks sold off while Treasury yields rose. Futures pricing reduced the prospect of cuts in 2025 by a quarter point, according to CME Group's FedWatch gauge.
“We moved pretty quickly to get here, and I think obviously we'll move slower in the future,” Powell said.
For the second time in a row, an FOMC member disagreed: Cleveland Fed President Beth Hammack wanted the Fed to maintain the current interest rate. Gov. Michelle Bowman voted no in November, the first time a governor voted against a tariff decision since 2005.
The fed funds rate determines what banks charge each other for overnight loans, but it also influences a variety of consumer debts such as auto loans, credit cards and mortgages.
Little changed in the post-meeting statement, aside from a change to the “magnitude and timing” of further interest rate changes, a slight change in language from the November meeting. Goldman Sachs said the adjustment was “an indication of a slower pace of upcoming rate cuts.”
Changing economic outlook
The cut came even as the committee raised its forecast for full-year 2024 gross domestic product growth to 2.5%, half a percentage point higher than in September. However, officials expect GDP to slow to the long-term forecast of 1.8% in the following years.
Further changes to the summary of economic forecasts led the committee to cut its expected unemployment rate this year to 4.2%, while headline and core inflation, according to the Fed's preferred measure, fell to their respective estimates of 2.4% and 2% .8%, slightly higher than the September estimate and above the Fed's 2% target.
The committee's decision comes as inflation not only remains above the central bank's target, but also as the Atlanta Fed forecasts fourth-quarter economic growth of 3.2% and the unemployment rate hovers around 4%.
Although these conditions would be most consistent with the Fed raising or maintaining interest rates, officials are wary of keeping rates too high and risking an unnecessary slowdown in the economy. Despite macroeconomic data to the contrary, a Fed report earlier this month found that economic growth had increased only “slightly” in recent weeks, with signs of a decline in inflation and a slowdown in hiring.
In addition, the Fed must grapple with the impact of fiscal policies under President-elect Donald Trump, who has hinted at plans for tariffs, tax cuts and mass deportations, all of which could be inflationary and complicate the central bank's job.
“We need to take our time, not rush, and do a very careful assessment, but only after we have actually seen what the policies are and how they have been implemented,” Powell said of the Trump plans. “We’re just not at that stage yet.”
Normalizing politics
Powell has suggested that the rate cuts are an attempt to recalibrate policy as it does not need to be so restrictive under current conditions.
“We believe the economy is fine [a] really good place. “We believe that politics is really in good shape,” he said on Wednesday.
With Wednesday's move, the Fed has cut interest rates by a full percentage point since September, a month in which it took the unusual step of cutting by half a point. The Fed generally likes to move up or down in smaller quarter-point increments to weigh the impact of its actions.
Despite the aggressive downward moves, the markets have taken the opposite course.
Both mortgage rates and Treasury yields rose sharply over the period, perhaps indicating that markets do not believe the Fed can cut further. The policy-linked yield on two-year Treasury bonds rose to 4.3%, above the Fed interest rate range.
In this context, the Fed has adjusted the interest rate it pays on its overnight repo facility to the lower end of the fed funds rate. The so-called ON-RPP rate serves as a lower limit for the fund interest rate, which approached the lower end of the target range.
Don't miss these insights from CNBC PRO
