Blackstone CEO: Expectations of interest rate cuts raise animal spirits
Blackstone Chairman and CEO Steve Schwarzman is “pretty confident” the Federal Reserve will cut interest rates.
Bloomberg
After nearly two years of working diligently to curb rising inflation by sharply raising interest rates, the Federal Reserve faces a far more pleasant dilemma as 2024 begins: figuring out when to start cutting rates.
Inflation has fallen faster than Fed officials expected after a pandemic-related price spike, even as the economy and labor market have remained surprisingly resilient.
At a two-day meeting starting Tuesday, the Fed is expected to keep its key short-term interest rate at a 22-year high of 5.25% to 5.5% for the fourth straight day. Still, some economists expect the Fed to begin cutting interest rates as early as March, meaning it could signal its intentions at this week's meeting.
Such a move would likely further boost an S&P 500 stock index that hit a record high last week on the prospect of continued inflation slowdown and Fed rate cuts.
But several top forecasters say the central bank will instead keep its options open, reiterating that it has made the rate hikes without providing any signs that a rate cut is imminent.
“The (Fed) will likely try to leave a rate cut on the table in March without sending a decisive signal,” David Mericle, an economist at Goldman Sachs, wrote in a note to clients.
Will the Fed cut interest rates in 2024?
Markets predicting moves in the federal funds rate believe a March cut is close, putting the probability of such a move at about 46%. All told, markets are forecasting six rate cuts this year in a range of 3.75% to 4%, twice as much as the Fed forecast last month.
Although Mericle expects the Fed to begin cutting interest rates in mid-March, he says Fed Chairman Jerome Powell will likely note that officials will base their decision on two more 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 “magnitude of any additional (rate hikes)” will depend on the lagged effects of previous rate hikes as well as economic and financial developments will depend. In other words, the statement was intended to reinforce Powell's statement in December that the rate hikes were probably over.
Instead, the Fed could refer to any “adjustments” to the key interest rate, indicating that a cut is at least as likely as an increase, Barclays wrote in a note to clients.
However, it's harder to decide when to do a complete 180 and start chopping the odds.
Why would the Fed lower the federal funds rate?
Traditionally, the Fed cuts interest rates to stimulate an economy that is slowing or in recession. That's not the case, at least not yet. Although high interest rates have pushed up the cost of mortgages and other consumer loans, the economy grew a strong 3.3% in the fourth quarter and a solid 2.5% for all of 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 think a mild recession is likely.
Therefore, there is no urgency for the Fed to cut rates, Mericle says.
What is the inflation rate currently?
At the same time, the Fed's preferred inflation indicator – the personal consumption expenditures index – rose 2.6% annually last month, compared to a peak of 7% in summer 2022. A key measure that excludes volatile food and energy goods and that the Fed watch fell more sharply to 2.9%, the lowest level since March 2021.
Although these levels are still above the Fed's 2 percent target, annualized core inflation has been below 2 percent every month since June, Barclays wrote in a note to clients.
“Based on these measures, the (Fed)’s mission to return inflation to 2% appears to have been accomplished,” Barclays said.
This means that the Fed's key interest rate, adjusted for inflation, is already more restrictive than it would like, says Barclays. Therefore, in theory, the Fed should cut interest rates to avoid slowing the economy more than necessary to ensure inflation continues to fall.
Will inflation rise again?
On the other hand, there is a risk that inflation has not yet been defeated.
A key reason inflation has fallen faster than expected, according to Barclays, is that average wage increases – which impact inflation – have slowed as increased immigration has expanded the pool of available workers. However, there are signs that the increase in labor supply has peaked. Last month, the labor force shrank by 676,000 and annual wage growth rose to 4.1% from 4% the previous month.
Barclays said there is also a risk that the supply chain problems that fueled inflation in the early days of the pandemic could flare up again due to the military conflict in the Red Sea.
Resume Writing Tips The job market is becoming more competitive. How do I write a resume that stands out?
And while consumer spending inflation is close to the Fed's target, another measure of inflation, the consumer price index, rose 3.4% annually last month and the core consumer price index rose 3.9% – still well above the Fed's target.
The Fed, for its part, will likely take a wait-and-see approach this week, economists say.
The Fed “will not back down if it expects to cut rates,” Ryan Sweet, chief U.S. economist at Oxford Economics, wrote in a research note.