The quantum of the cut indicates that the Fed is comfortable with the trajectory of prices.
In its September meeting, the US Federal Reserve has begun to ease policy, cutting interest rates by 50 basis points. The federal funds rate is now in the range of 4.75 to 5 per cent. The Fed’s policy pivot follows other central banks who have in recent months started lowering rates — the European Central Bank has now cut interest rates twice, while the Bank of England cut rates in August. This, however, marks only the beginning of the rate cut cycle. The Fed’s dot plot indicates further easing of 50 basis points by the end of this year. Additional cuts are expected in 2025 and 2026.
The quantum of the cut indicates that the Fed is comfortable with the trajectory of prices. The committee said that it had “greater confidence” that inflation was moving towards its target. CPI inflation has fallen to 2.5 per cent in August. As per the projections by Fed officials, as measured by the personal consumption expenditures index, inflation is expected to fall to 2.3 per cent in 2024, and further to 2.1 per cent in 2025. The cut also suggests that the Fed’s focus has now shifted to employment. It noted that the “unemployment rate has moved up”, though it “remains low”. The unemployment rate, which stood at 3.7 per cent at the beginning of this year, has risen to 4.2 per cent in August, and is expected to rise further to 4.4 per cent this year, pointing to weakness in the labour market. There are expectations that quick action by the Fed could ensure a soft landing for the economy. When the Fed had begun to raise rates in 2022 to fight inflation, some had argued that the central bank should have raised rates earlier, that it was behind the curve. This time, too, similar concerns have been voiced, with some pointing out that, considering the signs of weakness in the labour market, policy action should have come earlier. Jerome Powell, Fed Chairman, sought to address these concerns, saying “We do not think we’re behind, we think this is timely”. He sought to underline the strength of the US economy, saying that it was in good shape and “growing at a solid pace”.
The reverberations of the Fed’s policy action will be felt across economies. The Bank of Indonesia cut its interest rate just a few hours before the Fed’s policy. In India, the next meeting of the RBI’s monetary policy committee is scheduled to be held on October 7-9. In committee meetings in the past, there has been dissent on maintaining the status quo, with two external members voting in favour of changing the policy stance and for cutting rates. According to reports, three new external members on the committee are expected to be appointed this month. Members’ assessments of the domestic and global scenario, their expectations of the domestic growth-inflation dynamics, will determine the path of monetary policy.
