In a move that was largely anticipated, members of the Federal Reserve’s policymaking panel have opted not to raise their benchmark interest rate, the federal funds rate. But, in a bit of a surprise, they’ve signaled that multiple interest rate cuts are likely in 2024.
The stock market rallied on Wednesday’s news, and the Dow Jones Industrial Average closed above 37,000 for the first time in history, at 37,090.
Policymakers on the Fed’s Federal Open Market Committee, or FOMC, maintained their current target range of between 5.25% and 5.5% for the fed funds rate. The Federal Reserve has not raised interest rates since July 2023, and it seems increasingly likely rates have peaked for the current cycle.
The Fed said it would continue to allow up to $60 billion in Treasury securities and $35 billion in agency mortgage-backed securities (MBS) to mature and roll off its more than $7.7 trillion balance sheet per month in its ongoing battle against inflation.
The central bank also updated its long-term projections on Wednesday. Committee members now estimate a median fed funds rate of 4.6% in 2024, down from their previous 5.1% projection back in September.
And, the new projections suggest three interest rate cuts by the end of 2024.
The Inflation Tightrope
The latest data—showing inflation has been easing—has allowed the Fed to take its foot off the gas pedal for now, but the officials will continue to monitor incoming economic data in the weeks ahead. Economists and investors anticipate multiple interest rate cuts in the first half of 2024, but Federal Reserve officials have repeatedly emphasized they will not begin cutting rates until they are fully convinced the battle against inflation is over.
The Federal Reserve is attempting to bring down inflation by raising interest rates without tipping the U.S. economy into a recession. However, navigating a “soft landing” for the economy may prove difficult. That’s because higher interest rates increase borrowing costs for both companies and consumers, slowing economic activity.
On Tuesday, the Labor Department reported the consumer price index (CPI) rose 3.1% year-over-year in November, down from a 3.2% gain in October and a 40-year high of 9.1% in June 2022.
In late November, the Commerce Department reported the core personal consumption expenditures (PCE) price index was up 3.5% in October, down from a 3.7% year-over-year gain in September. Core PCE excludes volatile food and energy prices and is the Federal Reserve’s preferred inflation measure. Its long-term target for core PCE inflation is just 2%.
Meanwhile, the U.S. labor market has remained tight, making the FOMC’s fight against inflation more difficult. The Labor Department reported:
- The U.S. economy added 199,000 jobs in November, exceeding economist expectations of 190,000 new jobs.
- U.S. wages were up 4% year-over-year.
- The unemployment rate ticked lower to 3.7% in November and remains historically low.
“Inflation has eased from its highs, and this has come without a significant increase in unemployment,” Fed Chair Jerome Powell said in his post-meeting press conference on Wednesday.
“But inflation is still too high. Ongoing progress and bringing it down is not assured. And the path forward is uncertain.”
Economic Projections
The Federal Reserve revised its long-term economic projections on Wednesday. The FOMC projects:
- 2024 U.S. unemployment rate of 4.1%, which is in line with the Fed’s September estimate
- Decreased 2024 U.S. gross domestic product (GDP) growth projection from 1.5% to 1.4%
- 2025 GDP growth projection of 1.8%
On the inflation front, the Fed’s projected 2024 core PCE inflation growth rate dropped to 2.4% from 2.6%. FOMC members see inflation continuing to cool, contracting to 2.2% in 2025.
Economists have been concerned throughout 2023 that it will be difficult for the Fed to get inflation under control without triggering a recession. However, the S&P 500 had a total return of 22.85% year-to-date through Tuesday’s close, and S&P 500 constituent earnings growth has rebounded into positive territory in the second half of the year. Stock prices initially jumped on Wednesday following the FOMC announcement.
John Lynch, chief investment officer for Comerica Wealth Management, says the stock market may be priced for near-term disappointment heading into 2024.
“We struggle to embrace the consensus logic calling for 12% profit growth and more than 100 basis points in rate cuts in 2024,” Lynch says.
“Recent data on inflation, employment, and Jerome Powell’s persistent messaging are inconsistent with the market’s optimism.”
What’s Next?
According to CME Group, markets are currently pricing in a likelihood of around 86% that the Fed will once again choose to maintain interest rates at their current levels at its next meeting, which concludes on January 31. However, investors and central bankers have roughly six weeks of economic data to monitor between now and then, which could have a significant impact on monetary policy.
Gina Bolvin, president of Bolvin Wealth Management Group, says the Fed’s positive commentary on inflation is an early Christmas present for investors.
“It appears that the Fed is moving in the markets direction, rather than the market moving towards the Fed. The Santa Claus rally may continue,” Bolvin says.
In the near term, the Census Bureau will shed some light on how well U.S. retailers performed during the Thanksgiving week holiday when it releases its November Retail Sales report on December 14. In addition, investors will be watching for the November core PCE reading on December 22 to confirm inflation is still trending lower heading into 2024.
