The Federal Open Market Committee (FOMC) concluded its two-day meeting yesterday and announced its interest rates decision. As was widely expected, the bank left interest rates unchanged at the range of 2.25% and 2.50% in this meeting. The bank also issued a somewhat dovish statement, indicating that it will likely cut rates soon. This will be the first rate cut in more than 10 years and a sign that the economy was indeed weakening. The statement said:
In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its maximum employment objective and its symmetric 2 percent inflation objective. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.
By removing the term ‘patient’ in the above statement, the officials were officially raising their probability of lowering interest rates. This statement was however not unexpected. In fact, the officials have been talking about a rate cut in the past few weeks. Most recently, this was during a symposium by the Chicago Fed. After the Fed statement, the dollar weakened and US stocks rose as shown below.
By preparing to lower interest rates, the Fed will be doing what Donald Trump has been campaigning on for the past few months. The president has long believed that the Fed was working against his policies. In fact, it was recently reported that the White House had explored how to remove Jerome Powell, the Fed chair that Trump himself appointed.
In making its decision, the bank blamed the current weakness in the economy on the ongoing trade war pitting the US against its allies and adversaries. On China, the US has placed tariffs on goods worth more than $250 billion. Hearings about additional tariffs on goods worth more than $300 billion are going on. US companies have opposed these tariffs, terming them as taxes on American taxpayers. The US is also feuding with the European Union, which Trump has long accused of taking advantage of the US. This week, Trump criticized Mario Draghi after he pointed that more stimulus was on the way.
The recent interest rates hikes give the Fed tools to handle any large slowdown. The bank can easily lower interest rates if the economy indeed weakens. It can also implement a fresh round of quantitative easing, which will increase liquidity in the marketplace. This is likely because the recent data have not been strong. In fact, the most recent jobs data showed that the economy added just 75k jobs in May while the recent inflation rate has been subdued.
In the past 25 years, the Fed has initiated rate cuts four times. In all these times, a recession has happened within the next three months.
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