A sharp slowdown in the U.S. labor market, which led to days of global stock market turmoil, also fueled speculation that the Federal Reserve may not wait until its next meeting in September to cut interest rates.
A futures contract for interest rates that expires later this month and tracks the Fed’s policy expectations hit a two-month high earlier this week, on bets that rates would be lower by the end of August.
The chances are slim. As Chicago Fed President Austan Goolsbee said earlier this week, “the law says nothing about the stock market. It’s about employment and it’s about price stability,” referring to the Fed’s dual mandate to promote full employment and price stability.
An increasing number of analysts now expect a half-percentage-point rate cut before the Fed’s September meeting. But few, if any, believe the Fed will act any sooner.
“The current economic data does not justify an emergency rate cut in the meantime, and doing so would only lead to renewed panic in the markets,” wrote Kathy Bostjancic, economist at Nationwide.
Even former New York Federal Reserve President Bill Dudley, who last week called on the US central bank to cut rates before the latest figures showed the unemployment rate had risen to 4.3% in June, wrote this week that a cut between meetings is “highly unlikely.”
In late August, Fed Chairman Jerome Powell is expected to get a chance to offer a fresh perspective on what he believes is needed when central bankers from around the world gather at the Kansas City Fed’s annual economic symposium in Jackson Hole, Wyoming.
Powell is widely expected to put the stock market crisis behind him for now and stick to what he said last Wednesday, following the Fed’s decision to keep its policy rate at 5.25%-5.50%.
“If we indeed get the data we hope to get, then a cut in our policy rate could be discussed at the September meeting,” he said.
In the coming weeks, data on employment, inflation, consumer spending and economic growth could all influence whether that reduction will be a quarter of a percentage point or slightly larger.
On each of the eight occasions over the past 30 years that the U.S. central bank has cut rates between policymaking meetings, the market turmoil has gone well beyond equities. In particular, there have been clear indications in the bond market of rapidly building disruptions to the credit flows that keep businesses afloat, a factor that has been conspicuously absent until now.
If you read them all, it becomes clear why those times were different.
Oct. 15, 1998 – The Fed, fresh from a quarter-point rate cut at its meeting two weeks earlier, cut its policy rate by another 25 basis points. The failure of hedge fund Long-Term Capital Management – hot on the heels of Russia’s sovereign debt default two months earlier – reverberated through U.S. financial markets, sending credit spreads out of control that threatened to hurt investment and drag down the economy.
Jan. 3 and April 18, 2001 – The Fed made two surprise half-point rate cuts early this year after the sharp rise in dot-com technology stocks turned into an equity rally that policymakers feared would depress household and corporate spending. What was largely a stock market event spilled over into the corporate bond market through late 2000, pushing high-yield spreads to their highest ever.
The Fed’s two rate cuts came on top of two half-percentage-point cuts at its Jan. 31 and March 20 meetings.
September 17, 2001 – The Fed cut its policy rate by half a percentage point after the attacks and the days-long shutdown of U.S. financial markets, and pledged to continue supplying unusually large amounts of liquidity to financial markets until normal market functioning returned. Spreads on high-yield bonds widened by more than 200 basis points before the Fed’s actions helped calm credit markets.
Jan. 22 and Oct. 8, 2008 – The Fed cut its policy rate by 75 basis points at an unscheduled meeting in January, as what had begun the previous summer as a subprime lending crisis gathered momentum and spread to global markets. High-yield spreads were the widest in five years.
Then, the bankruptcy of Lehman Brothers on September 15 ushered in a new phase of the crisis, and while the Fed took no policy action the following day, it joined with other global central bankers in early October for coordinated action that included a half-point cut in the federal funds rate. Credit spreads eventually peaked toward the end of the year, which remains a record for both high yield and investment-grade bonds.
March 3-15, 2020 – The Fed cut interest rates by half a percentage point and less than two weeks later by another full point to ease policy as global travel and commerce came to a near standstill due to the government shutdown to prevent the spread of COVID-19. While U.S. stock indices fell more than 30%, an even bigger concern was a 700-point widening of credit spreads and disruptions to the functioning of the U.S. Treasury market.
(Reporting by Ann Saphir and Dan Burns; Editing by Andrea Ricci)
