The Fed Sets the Table for September

Takeaway from Yesterday’s Fed Decision

The Fed chose to keep its policy rate steady yesterday, at 5.25-5.50%, as expected. This marks the eighth meeting in a row with no change and the 17^th straight unanimous decision. The new news is that the Fed is now focused not only on inflation risk (meaning it is still too high vs their 2% target) but is now also paying attention to the weakening labor market. The committee specifically stated that “job gains have moderated, and the unemployment rate has moved up but remains low”.

They want to see more evidence that the inflation picture is moving closer to 2%. We see ample evidence that it is getting closer to the goal, especially when looking at the 2.5% Personal Consumption Expenditure (PCE) and the 2Q Employment Cost Index, which showed wages running at 3.71% SAAR. The Fed has long said that wages at 3.5% are equivalent to 2% inflation with 1.5% productivity, with productivity increasing by 2.3% last week.

So, on the inflation side, we are there. On the labor front, unemployment remains at 4.1% – historically low. But JOLTs, ADP, and weekly jobless claims are all inching softer. We believe the Fed should have eased this week. The Fed gave no explicit signal for a September rate cut but the Fed Fund Futures show over a 100% chance of a cut occurring at the next meeting.

It could be the case that the Fed is behind the curve yet again. The Fed waited too long to raise rates in 2022 and 2023, claiming inflation was “transitory” which clearly was not the case. The U.S. economy is expanding at a 2.8% rate, but inflation is slowing, and the labor market is showing small cracks. The Fed had a chance to get ahead of the curve today and preemptively adjust its policy rate to maintain the soft landing the economy has been experiencing, but ultimately chose to not take any action. Just as they took too long to move as inflation broke out two years ago, they may be taking too long to listen to the data once again.

Chart 1: Before the Fed Decision, Markets Showed a 100% Chance for a Cut in September, Deciding Between 25 BP and 50 BP^[1]

Chart 2: Following Powell’s Press Conference, Odds Tick Higher for a 50 Basis Point Cut in September^[2]

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[1] Source: CME Group. As of July 30, 2024.

[2] Source: CME Group. As of July 31, 2024.