On Wednesday, the Federal Reserve took an aggressive step by cutting its benchmark interest rate by half a percentage point, marking the central bank's first rate reduction since the onset of the COVID-19 pandemic.
The 50 basis point cut, which brings the federal funds rate down to a range of 4.75% to 5%, aims to counter softening inflation and a weakening labor market.
The Federal Open Market Committee (FOMC) made the decision amid signs of slowing job growth and moderating price pressures. Market expectations had already shifted in favor of this substantial cut, the largest outside emergency measures since 2008.
The move reflects the Fed's intention to recalibrate monetary policy to support the economy.
The FOMC's decision was backed by a majority vote of 11-1, with only Governor Michelle Bowman dissenting, favoring a smaller quarter-point cut. This was the first dissent from a Fed governor since 2005, highlighting the cautious nature of the Fed's approach.
Fed Chair Jerome Powell emphasised that policymakers remained focused on stabilising inflation without triggering significant job losses.
"The Committee has gained greater confidence that inflation is moving sustainably toward 2 percent, and judges that the risks to achieving its employment and inflation goals are roughly in balance," the Fed's statement read.
While inflation remains above the Fed’s 2% target, it has cooled significantly from recent peaks. The Fed’s core inflation projection for this year has been revised down to 2.6%, while the unemployment rate is expected to edge up to 4.4% from its current level of 4.2%. This reflects the Fed's view that the economy still shows resilience but faces challenges ahead.
Looking forward, the Fed's "dot plot" indicates expectations of further rate cuts, with projections suggesting another 50 basis points of reductions by year’s end. By 2025, officials see rates falling by a full percentage point, with additional cuts likely through 2026.
The rate cut comes despite generally solid economic indicators. GDP growth remains robust, with the Atlanta Fed tracking 3% growth in Q3, bolstered by strong consumer spending.
However, concerns over the labor market's weakening and inflation's persistence remain. Hiring has slowed, and the unemployment rate has edged higher, even as layoffs remain subdued.
Wednesday’s rate cut sets the stage for ongoing debate about the Fed's next steps. Powell indicated that this move is not necessarily the start of a series of large cuts but noted that the Fed is committed to supporting the economy.
Markets reacted with volatility, with the Dow Jones Industrial Average initially climbing 375 points before settling down.
Treasury yields rose as investors absorbed the implications of the Fed’s decision.
The Fed's move aligns with similar actions by other central banks around the globe, including the Bank of England and the European Central Bank, which have also begun cutting rates in response to moderating inflation and economic challenges.
While the Fed is cutting rates, it continues its quantitative tightening program, reducing its balance sheet by allowing up to $50 billion in maturing bonds to roll off each month. The Fed’s balance sheet now stands at $7.2 trillion, down from its peak during the pandemic.