Investors are assuming that a final rate cut in 2024 is a certainty from the Federal Reserve next Wednesday, but the bigger question is whether the central bank is willing to scale back its expectations in 2025.
All eyes will be on the so-called “dot plot,” a chart updated quarterly that shows each Fed official’s prediction about the direction of the federal funds rate.
In September, as the central bank launched its first rate cut in more than four years, the dot plot revealed a consensus among Fed officials for two more cuts in 2024 and four small additional cuts in 2025.
Now that 2025 projection has been called into question after a series of persistent inflation data and cautious commentary from Fed officials. Some Fed observers also expect the new Trump administration’s policies to pose even more challenges for central bank policymakers.
That previous prediction of four rate cuts next year “needs to be reconsidered,” former Cleveland Fed President Loretta Mester told Yahoo Finance, predicting a “slowdown” before 2025.
Two or three cuts in 2025 ‘seems right to me’.
Some Fed observers disagree, saying Fed officials will stick with their estimates of four cuts by 2025.
“The overall story is that they still expect inflation to fall,” said Luke Tilley, chief economist at the Wilmington Trust, which expects the average estimate for 2025 to remain at four cuts. “They still think the rates are restrictive.”
Read more: What the Fed’s interest rate cut means for bank accounts, CDs, loans and credit cards
Fed Chairman Jerome Powell has left the Fed plenty of breathing room to adopt a slower pace if necessary. He said in early December that “we can afford to be a little more cautious” because the economy is stronger than expected earlier in the fall.
The potential for a pullback in expectations is due to two developments in late 2024 that surprised some economists.
First, the labor market showed no new signs of weakness. Second, inflation has remained in a persistent sideways pattern this fall, refusing to make a definitive decline toward the Fed’s 2% target.
The latter evidence came last week when inflation data from the Bureau of Labor Statistics showed that the consumer price index (CPI) rose 2.7% in November from the previous year, up slightly from the annual price increase of 2.6% in October.
On a core basis, which excludes the more volatile costs of food and gas, prices rose 3.3% year-on-year for the fourth month in a row in November.
Wholesale prices also rose more than expected in November, adding to the series of persistent inflation pressures.
But traders responded to the new data by ramping up their bets on a Fed cut this week, pushing odds above 95%.
And some don’t expect the Fed’s 2025 forecasts to change either. Wilmington Trust’s Tilley believes that average estimates of how far rates will fall by the end of 2025 will still be between 3.25% and 3.5% once the dot plot is released on Wednesday.
Fed officials “will need to give a nod to the more recent inflation numbers that have remained a bit high, but also focus on the labor market, which has seen a lot of volatility but on balance has slowed,” he said.
Tilley is more concerned about the labor market than most Fed members, seeing a 35% chance of a recession due to the weak labor market.
Tilley also notes that demand for labor is declining, with private sector job growth now down to 108,000 on average over six months. He sees the labor market slowing to almost 100,000 jobs per month.
Wilmer Stith, bond portfolio manager of Wilmington Trust, is another Fed watcher who still sees four rate cuts next year.
What he expects Powell to say Wednesday is that the Fed is making progress on its inflation target, pointing to progress in housing prices and other segments of the CPI.
Fed Chairman Jerome Powell speaks at the New York Times DealBook Summit in New York on December 1. 4. (AP Photo/Seth Wenig) ·ASSOCIATED PRESS
“That bodes well for this story of ‘we’re getting closer to our goal,’” Stith said.
As for any move this Wednesday, “I think it’s certain that rates will be cut by 25 basis points.”
Some Fed officials have offered upbeat assessments of the inflation outlook. Richmond Fed President Tom Barkin told Yahoo Finance in mid-November that he expects inflation to continue to decline next year.
He attributed the recent flat core inflation data to stricter comparisons with the previous year.
Inflation numbers in the first quarter of 2025 could look better, he said, as the first quarter of this year showed higher rates – a development that gave officials pause.
Chicago Fed Chairman Austan Goolsbee also urged the bigger picture during his speech in early December, noting that “we have seen a huge decline in inflation” since it peaked at 9% in 2022, which at the time was the was the highest level. since 1981.
“I still think we’re going to go to 2%,” he added.
But Mester told Yahoo Finance that the recent readings, including the CPI last week, should be enough to get Fed officials thinking about 2025.
“I think there will be a reconsideration of what that appropriate policy path should look like next year, even beyond future fiscal policy measures, which are still largely unknown, but which we know are coming,” she said.
A rate cut is still likely this week, she added, because the market expects it. But that could be followed by a break in January.
“It’s more likely they’ll continue in December and then think about next year.”
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