The U.S. Federal Reserve will set interest rates again on May 1. Fixed income markets expect that rates will remain at 5.25% to 5.5%, as they have been since last July. Nonetheless, summer rate cuts are expected.
That’s according to the CME FedWatch Tool, which measures the implicit expectations of fixed income markets. It forecasts only an 8% chance of a rate cut on May 1. Forecasting site Kalshi currently puts the chance of a cut at 12%.
Those assessments could change in the face of dramatic economic news. But current expectations are that the Fed will start to cut rates at some point between June and September. The exact timing depends on how incoming economic data looks. The Fed’s March meeting did not set up the prospect of a near-term interest rate cut, but a summer cut appears likely.
March’s FOMC Announcement
The Fed’s March meeting confirmed that policymakers on the Federal Open Market Committee expect interest rates to fall in 2024. Most of them expect two or three cuts this year, according to March’s Summary of Economic Projections. At his March 20 press conference, Fed Chair Jerome Powell explained, “The risks are really two-sided here. We’re in a situation where if we ease too much or too soon, we could see inflation come back, and if we ease too late, we could do unnecessary harm to employment and people’s working lives.”
Interest rate cuts are likely because disinflation in the second half of 2023 was very favorable, and inflation is now well below the levels seen when the FOMC started hiking rates. Initial inflation data for 2024 has been less encouraging so far, with a particularly high monthly increase for January. However, it remains to be seen if the first two months of data become a longer-term trend.
Separately, any disruption to unemployment could encourage the Fed to cut rates sooner. Employment is the other key component of the Fed’s mandate, along with controlling inflation. But so far, the Fed views the jobs market as robust. Arguably, this strength has given the Fed more time to be patient in assessing the full extent of inflation data before considering rate cuts. Nonetheless, there is still some recession risk, according to certain economic indicators.
Inflation Data
Inflation will be key to the timing of any rate cut, as Powell noted on March 20. “We’re looking for data that confirm the kind of low readings that we had last year and give us a higher degree of confidence that what we saw was really inflation moving sustainably down to two percent, toward two percent,” he said.
The Fed’s preferred Personal Consumption Expenditures inflation metric stands at a 2.4% annual rate for January 2024, with an update for February coming on March 29. The Consumer Price Index will be updated for the month of March on April 10.
Going forward, the Fed and many economists expect housing services inflation rates to cool. Somewhat offsetting that potential decline is oil prices, which have risen since January — though the Fed typically looks past volatile energy price trends. There is also concern that recent deflation in certain goods prices may be ending. This includes falling prices for certain household goods and used cars over the past 12 months.
Nowcasts for March inflation see a monthly increase of 0.2% to 0.3%, according to the Cleveland’s Fed’s model. That would be down from January’s monthly spike of 0.4% per CPI data, but still generally above the relatively benign inflation numbers from the second half of 2023.
What To Expect
Interest rates are currently relatively restrictive, but a strong jobs market has enabled the FOMC to be patient in considering rate cuts. At the margin, the strong jobs market may be contributing to inflation, too. Powell noted on March 20, “workers are getting paid and they’re spending.”
It is unlikely that the Fed will cut rates at its April meeting. However, depending on incoming data, particularly inflation news, the first interest rate cut from the Fed is likely months away. May’s FOMC statement and Powell’s press conference could help finesse the timing.
In terms of incoming data, the Fed will be looking for a degree of cooling in the jobs market and perhaps some softening of services prices in the inflation data, including housing services. This might confirm summer rate cuts are on track.
