Fed Cuts Rates For First Time Since 2008. George, Rosengren Dissent

With the world – and Donald Trump – watching, the Fed cut rates on Wednesday for the first time in more than a decade.

The 25bp cut was widely expected by markets and will be a disappointment to those looking for more at the July meeting. Morgan Stanley, for instance, had penciled in 50bp as their base case. More importantly, the man in the Oval Office will almost assuredly see the move as inadequate. Earlier this week, Trump indicated that a small rate cut is “not enough” to restore America’s competitive advantage at a time when the FOMC’s global counterparts have pivoted to easier monetary policy amid slowing growth.

There were two dissents: George and Rosengren. If he wants to keep the dream alive for market participants hoping today marks the beginning of an easing cycle, Jerome Powell will need to convince skeptics that he can build consensus for further cuts should conditions warrant in the months ahead.

Read more: What To Expect From The Fed At The July Meeting And Press Conference

“We believe Powell will want to counter the hawkish message sent from dissents. We therefore think it will leave Powell to be even more dovish in the press conference”, BofA wrote late last week. “This would show that he is leading the Committee and will press on with accommodative policy even in the face of dissents”, the bank added.

(BofA)

The statement reflects a less sanguine assessment of business spending and, notably, the  inflation language continues to sound pessimistic (i.e., dovish).

The language around “uncertainty” (a word that was mentioned more than two-dozen times in the June minutes and featured heavily in Powell’s testimony on Capitol Hill) was tweaked a bit, but left largely unchanged to reflect ongoing market jitters. “Sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee’s symmetric 2 percent objective are the most likely outcomes, but uncertainties about this outlook remain”, the July statement reads.

On the balance sheet, the Fed did in fact elect to cease runoff early (on August 1), presumably in order to avoid sending conflicting messages to the market. IOER was also lowered by a quarter point.

The challenge during the press conference (and in the weeks between now and the September meeting) will be leaving the door open to additional cuts in the face of a possible inflection for the better in the data. Although Wednesday’s Chicago PMI print bodes poorly, recent top-tier data including June payrolls and core CPI have come in better-than-expected. Although the Q2 GDP report was mixed, it by no means justified the commencement of an easing cycle.

Of course, trade uncertainty continues to cast a pall over the outlook, and it appears as though the US and China are digging in for a protracted stalemate. Negotiations with Europe promise to be arduous and Trump continues to believe that tariffs are one of the best ways to extract leverage.

Meanwhile, there’s every reason to believe that this year’s “everything rally” and concurrent loosening of financial conditions are predicated on expectations for rate cuts. Disappointing those expectations risks a reversal of benign market dynamics and an unwind in myriad crowded rates trades.

At the same time, the White House is extremely concerned about dollar strength and speculation  abounds that Steve Mnuchin will be asked to intervene in FX markets, forcing the Fed to choose whether to go begrudgingly along for the ride or risk incurring the wrath of the president.

Complicating matters further is the fact that the US is headed into an election year. Thanks to Trump’s incessant publicly berating, the Fed is already vulnerable to charges of politicization. The proximity of the election makes things more challenging still. If the Fed cuts rates further, they’ll be accused of politicizing monetary policy by pandering to Trump. If they don’t cut rates again, they’ll be accused of the same thing, only in the service of undermining the president’s agenda. In one case, the Fed is compromising the integrity of what, at the end of the day, is arguably the most important institution in the world. In the other case, Fed officials are traitors to their country.

We wish them the best of luck with that rather vexing quandary.

Full July FOMC statement

Information received since the Federal Open Market Committee met in June indicates that the labor market remains strong and that economic activity has been rising at a moderate rate. Job gains have been solid, on average, in recent months, and the unemployment rate has remained low. Although growth of household spending has picked up from earlier in the year, growth of business fixed investment has been soft. On a 12-month basis, overall inflation and inflation for items other than food and energy are running below 2 percent. Market-based measures of inflation compensation remain low; survey-based measures of longer-term inflation expectations are little changed.

Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. In light of the implications of global developments for the economic outlook as well as muted inflation pressures, the Committee decided to lower the target range for the federal funds rate to 2 to 2-1/4 percent. This action supports the Committee’s view that sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee’s symmetric 2 percent objective are the most likely outcomes, but uncertainties about this outlook remain. As the Committee contemplates the future path of the target range for the federal funds rate, it will continue to monitor the implications of incoming information for the economic outlook and will act as appropriate to sustain the expansion, with a strong labor market and inflation near its symmetric 2 percent objective.

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.

The Committee will conclude the reduction of its aggregate securities holdings in the System Open Market Account in August, two months earlier than previously indicated.

Voting for the monetary policy action were Jerome H. Powell, Chair; John C. Williams, Vice Chair; Michelle W. Bowman; Lael Brainard; James Bullard; Richard H. Clarida; Charles L. Evans; and Randal K. Quarles. Voting against the action were Esther L. George and Eric S. Rosengren, who preferred at this meeting to maintain the target range for the federal funds rate at 2-1/4 to 2-1/2 percent.