The Federal Reserve kept interest rates unchanged on December 13th, 2023 after a year of aggressive hikes to fight inflation. However, in a major policy shift, the Fed now forecasts rate cuts starting in 2024 as inflation continues cooling.
Fed Holds Rates Steady After 450 Basis Points of Hikes
The Fed’s policy setting Federal Open Market Committee (FOMC) voted unanimously to keep the federal funds rate in a target range of 4.50% to 4.75%, after lifting it by 450 basis points over the past year. This marks the highest fed funds rate since 2007.
In his press conference, Fed Chair Jerome Powell said the FOMC believes it has now reached the terminal rate needed to sufficiently slow the economy and restrain prices.
Historical Fed Funds Rate
| Date | Rate | Change |
|---|---|---|
| December 2022 | 4.25% – 4.50% | +0.50% |
| November 2022 | 4.00% – 4.25% | +0.75% |
| September 2022 | 3.00% – 3.25% | +0.75% |
| July 2022 | 2.25% – 2.50% | +0.75% |
Powell reiterated that ongoing hikes would depend on incoming data, but said “the time for moderating the pace of rate increases may come as soon as the December meeting.” This paved the way for today’s decision to stand pat.
Fed Economic Projections Point to Rate Cuts in 2024
In their latest Summary of Economic Projections (SEP), Fed officials now see cutting rates by around 0.75 percentage points through 2024 and into 2025:
- 2023 Year-End Fed Funds Rate: 5.1%
- 2024 Year-End Rate: 4.1% (-1.0%)
- 2025 Year-End Rate: 3.1% (-1.0%)
The forecast of rate cuts marks a substantial shift toward easier monetary policy after the fastest pace of hikes since the 1980s.
Powell cited recent inflation readings showing prices cooling from 40-year highs as a factor allowing the Fed to reduce accommodation at a slower pace going forward.
Markets, Economists Welcome Dovish Policy Pivot
The surprise signal of impending rate cuts sparked an immediate rally in stocks and bonds, while sending the dollar tumbling.
Many economists praised the data-dependent flexibility after prior criticism that the Fed was stubbornly sticking to an aggressive tightening path even as risks of recession rose.
Mohamed El-Erian, chief economic advisor at Allianz, tweeted praise for the Fed’s pivot:
“Hand it to Jay Powell. After a yearlag, he engineered a well-handled pivot to restoring the @federalreserve’s historical flexibility. This will serve the #economy well.”
However, some analysts cautioned that actual rate cuts remain far off and could reverse course if inflation rebounds sharply.
Cut Projections Boost Economic Hopes
With inflation showing increased signs of peaking, the Fed’s slightly more comforting outlook for next year and beyond boosted hopes that the economy may achieve a soft landing.
With mortgage rates potentially declining from their recent highs north of 7%, the projections gave a dose of relief to the housing market after the rapid surge in borrowing costs led home sales to plunge over 30% from last year.
If inflation data allows even a modest 75-100 basis points of rate cuts through 2024 as the Fed plots, analysts predicted it would further support economic activity and financial conditions – though full normalization remains years off.
Powell emphasized the Fed will react flexibly to incoming data, meaning the path of policy and rate cuts remains highly uncertain. But for now, the central bank is allowing some tentative optimism to emerge.
Gradual Cuts Depend on Inflation Outlook
The Fed made clear that beginning to reduce rates hinges heavily on inflation continuing recent progress back toward their 2% target.
Powell stated bluntly that the ultimate level of rates and timing of cuts remains “very uncertain.” Benchmark policy rates may need to remain restrictive for “some time” to ensure prices move fully back in check.
If high inflation re-accelerates due to lingering supply snarls, wage pressures, or other shocks, the Fed stressed they stand ready to ramp up rates further as needed – even into 2024.
Fed Economic Projections
| 2023 | 2024 | Longer Term |
|---|
| Unemployment Rate | 4.6% | 4.5% | 4.5%
| PCE Inflation | 5.0% | 2.5% | 2.0%
| Real GDP Growth | 0.5% | 1.0% | 1.8%
This demonstrates the Fed balancing act between taming inflation and avoiding recession. The updated forecasts factor in the cumulative tightening already delivering a slowdown, but see conditions stabilizing.
JP Morgan Asset Management strategist David Kelly wrote the shift “represents a crucial, and overdue, nod from the Fed that the tightening cycle is coming to a close.” But successfully engineering a soft landing is hardly guaranteed.
The coming years loom pivotal for the economy and monetary policy. While rate cuts may indeed materialize depending on the inflation data, the Fed left no doubt they remain willing to continue hiking if price stability demands it. After delivering a long-awaited policy pivot, they are far from declaring complete victory in the battle against inflation.
To err is human, but AI does it too. Whilst factual data is used in the production of these articles, the content is written entirely by AI. Double check any facts you intend to rely on with another source.
