With Fed rate cuts on the horizon, the debate is turning to how big of a move by Reuters

By Howard Schneider

WASHINGTON (Reuters) – The Federal Reserve will almost certainly cut interest rates for the first time in more than four years on Wednesday as the U.S. central bank begins to reverse the restrictive conditions it imposed to counter inflation, but if policymakers opt for the half -percentage point clipping or smaller move stays up in the air.

Their choice of how they want to start a new cycle of easing – less than two months before what is expected to be a close US presidential election – is likely to depend more on the signal they want to send. as they pivot from the highest interest rates in a quarter-century than about expectations for the near-term macroeconomic impact, even as their worries about the labor market grow.

A cut of half a percentage point – now more than 60% likely in rate futures markets – would signal a commitment to sustaining the current economic expansion and the job growth that accompanies it, which Fed Chairman Jerome Powell has said it is a top priority now that inflation is nearing the central bank’s 2 percent target.

A quarter-percentage-point cut in borrowing costs would be more in line with how the Fed has started previous easing cycles outside of any brewing crisis. It would align with the cautious approach policymakers have said they are taking on rate cuts and follow economic data that has shown the economy is slowing but does not appear to be about to burst.

Recent job growth has slowed from high levels in the COVID-19 era but remains positive; data on retail sales and industrial production released on Tuesday beat expectations; and an Atlanta Fed model that tracks economic growth estimates based on incoming data shows the economy expanding at an annual rate of 3.0 percent so far in the third quarter, above the central bank’s estimates of potential U.S. growth.

“We have never approached a major tipping point in interest rates without greater certainty” about how it will start, Diane Swonk, chief economist at KPMG, wrote on Monday before the start of the latest meeting two-day Fed. But while a 50-basis-point cut “will undoubtedly be discussed,” Swonk said, “Powell is unlikely to have the votes.”

Others argued that after the Fed’s last meeting in July, at which more policymakers were open to cutting rates at the time, and investors headed for bets on a half-percentage-point cut, to do less would be seen as a failure for Powell. statement last month that he did not want the labor market to weaken further.

“The Fed will offer a 50 basis point cut to start the easing cycle and will look … to ensure it is not behind the curve and to bolster confidence” that the expansion will continue as inflation eases further much, Evercore ISI Vice President Krishna Guha wrote, while noting that there could be as many as three dissents, an unusual fracture in Powell’s efforts to operate by consensus.

THE FIGHT OF INFLATION

The Fed’s rate decision and new policy statement are scheduled to be released at 14:00 EDT (1800 GMT), along with updated economic projections that will show how much lower policymakers expect to cut rates this year and in 2025. Officials will also update their outlook. for inflation, unemployment and economic growth.

The Fed’s benchmark rate has been held in the current range of 5.25%-5.50% for 14 months. That’s longer than three of the last six Fed “hold” periods, but it’s less than the 15 months in which rates were unchanged before the 2007-2009 financial crisis and even further than the 18-month hiatus during The “Great Moderation” of the late 1990s.

While the rate decision itself is critical, the way Powell describes that choice and the outlook for borrowing costs during the post-meeting news conference could be more so. He is due to begin his remarks half an hour after the release of the policy statement and forecasts.

The Fed’s decision, the tenor of Powell’s statement and press conference, and the market’s reaction to it, will come about seven weeks before the end of a US presidential election campaign that could turn at least in part on voter perceptions of looking at pocket money issues such as food and housing costs.

In the wake of the pandemic, a combination of scarce goods, massive spending, labor shortages, large government deficits and aggressive corporate pricing have driven inflation to a 40-year high in 2022.

While wage growth was also strong and for many workers outpaced price growth, sentiment was muted for most of the time as the Fed raised interest rates to try to slow the economy, mortgage rates to housing rose in response and banks reduced credit. for many types of loans and borrowers.

Inflation by the Fed’s most-watched measure is now about half a percentage point below the central bank’s target and is expected to decline gradually through the rest of 2024 and next year.

By nearly every measure, the economy has fared better than expected, and the Fed is expected to shift gears and give its first indications on Wednesday of how fast and how far it plans to pivot.