While many indicators point to the relative health of the U.S. economy, the Federal Reserve is lowering the target range for the federal funds rate by 25 basis points to a range of two to 2.25 per cent.
This marks the first rate cut since 2008.
“Markets weren’t surprised,” says Dec Mullarkey, managing director at SLC Management, noting markets have been pricing in three rate cuts for the balance of the year including this one.
Jerome Powell, the Fed’s chair, emphasized this rate cut was part of a “mid-cycle correction” as opposed to kicking off a lengthier series of cuts.
In digesting this news, U.S. stocks dipped, the short end of the yield curve tilted up somewhat, the long end tipped down, resulting in a flatter curve overall. As well, the U.S. dollar ticked higher.
“[Powell] did really push home that data in the U.S. that’s coming in is pretty strong,” says Mullarkey. Outside the U.S., however, there are a number of flash points that could indicate further volatility down the road. Tariffs on China, weak manufacturing data out of Europe and Japan, ongoing uncertainty around Brexit, as well as heightened tensions with Iran are all swirling in the background of that rosy economic picture the U.S. is currently enjoying, he says.
“The Fed has a more difficult communication challenge, because a lot of the time what it’s saying is, ‘Look we have a set of dials, and we’re adjusting them as information comes through. And I can’t tell you with certainty what that information is going to look like. But what we can tell you and assure you is that we’re going to react.’ And of course, he did reiterate that message: ‘We’re here to sustain this recovery.'”
While some market participants had been pricing in an even larger 50 basis point cut, that was never very likely, said Eric Lascelles, chief economist at RBC Global Asset Management, in an email to Canadian Investment Review.
Notably, two out of the ten Fed votes dissented against the rate cut, which wasn’t especially surprising since nine out of 17 Fed participants didn’t recommend any rate cuts for the year as of June, noted Lascelles. This could add complexity to the question of whether the Fed will cut rates further this year, he added.
In addition to downside risks, Powell’s messaging focused on the inflation shortfall the U.S. is experiencing, said Lascelles. However, while the last message from the Fed indicated both inflation and downside risks were in a position of deterioration, the language this time indicated those situations are maintaining rather than worsening, he noted.