Monday started with a mixed session on Wall Street and a downturn on the Warsaw Stock Exchange. DAX and CAC40 also lost in Europe. The zloty mainly gained thanks to the weakness of the dollar. The US currency lost, which is mainly attributed to a strong change in expectations regarding tomorrow’s Fed decision. Despite the lack of significant macro data and statements from representatives of the US institution, the market is beginning to speculate more strongly that a cut of 50 basis points is realistic. From day to day this certainty increases, which in my opinion may cause an even greater scale of disappointment.
The first interest rate cut in the US in 4 years is already within reach. The market is still uncertain whether it will be a move of 25 basis points, or perhaps the Fed will make a stronger change. The recent days have shown that investors are increasingly believing in this latter variant. In my opinion, most of them are mistaken. The size of the easing will not matter that much to the economy. The decision itself, however, may suggest to the market how the Federal Reserve assesses the state of the economy and what it expects in the near future.
Undoubtedly, the Fed must start acting. The data suggests this. The inflation rate, measured by the consumption expenditure deflator excluding food and energy (core PCE), dropped by 3 percentage points from its highest level at the beginning of 2022 to 2.6% currently. This trend should be maintained in the coming months. Meanwhile, wage growth, which has a decisive impact on service prices, has also clearly slowed down. Forecasts indicate that by spring 2025, core inflation will probably be only slightly above the Fed’s 2% target.
At this moment, the Fed sees a greater risk for the part of its mandate concerning employment. Previously, for a long period attention was concentrated on fighting inflation. This change of priorities was clearly marked during the last central bankers’ symposium in Jackson Hole in the Rocky Mountains.
The September meeting is not just about the decision on the cost of money. It’s also time for updated forecasts. We will receive a new “dot chart”, which is likely to undergo significant changes. Let’s remind that in June, the central bank assumed that this year there would be one cut of 25 basis points and in the following years (2025-2026) the cost of money would be reduced by a total of 100 basis points. Currently, the market values the reduction to be 100 basis points by the end of the year. How much the dot chart changes will also affect the strength of the market reaction.
As I have emphasized many times, a 50 basis point cut could be seen by many investors as evidence that the Fed is really worried about the economy and may have delayed the change in interest rates for too long. Powell probably won’t want to give that impression. The scope and pace of further cuts will depend on the economic data published in the coming months. The Fed will likely want to retain some flexibility in its actions, and a first change of 50 basis points could result in pressure for further steps of the same or larger scale.
Today’s focus will be on retail sales, which will demonstrate the strength of the American consumer. However, the chances of it affecting the market’s perception of the Fed’s actions are small. Forecasts indicate a deterioration of the situation, but a single publication, the day before the announcement of the decision, is unlikely to cause the central bankers to change their minds. I believe that market volatility will be moderate.
Łukasz Zembik Oanda TMS Brokers
Source: https://ceo.com.pl/rynek-coraz-mocniej-wierzy-w-to-ze-fed-zachowa-sie-agresywniej-23734
