Three and Done

Economic Blog
October 31, 2019

The Federal Reserve (Fed) could be three and done with interest rate cuts.

On October 30, the Fed reduced interest rates by 25 basis points (0.25%) in its third rate cut of the economic cycle. While the headline decision was dovish, the Fed signaled this could be the last rate cut for a while. The clearest hint was policymakers’ removal of language stating they would “act as appropriate to sustain the expansion.” Going forward, the Fed will now “assess the appropriate path of the target range for the federal funds rate.”

Fed Chair Jerome Powell doubled down on this notion in his post-meeting press conference. He kicked off his comments by saying that “monetary policy is in a good place” and that the current state of monetary policy is likely to remain appropriate as long as the economic outlook stays favorable. Powell didn’t drop the Fed’s commitment to flexibility, but he did note that downside risks had subsided.

We’ve agreed with the Fed’s characterization of recent rate cuts as a “mid-cycle adjustment” in response to global headwinds, rather than an attempt to fend off a serious recession threat. We also anticipated that the series of rate cuts wouldn’t last long, and that the Fed wouldn’t take the fed funds rate close to zero.

“Given the U.S. economy’s resilience and the already low policy rate, we do not expect the Fed to take rates much lower,” said LPL Financial Senior Market Strategist Ryan Detrick. “Policymakers clearly view these cuts as a risk management tool, and they want to ensure enough wiggle room to adjust rates further when a recession appears more likely.”

As shown in the LPL Chart of the Day, if this last phase of rate cuts is indeed over, it would largely mirror the Fed’s other two “mid-cycle adjustments” since 1990.

fed-mid-cycle-adjustment_1

Wall Street’s favorite analogy for the current environment is the mid-1990s, and we see several parallels between then and now. If the pattern from the 1990s holds, the three rate cuts may be enough to extend the cycle.

The Fed’s next challenge may be steering markets away from further rate cut expectations, while promoting policy flexibility in case conditions turn again. Powell was able to navigate markets successfully in Wednesday’s decision, and we have faith he can guide investors through another U-turn in policy.

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This Research material was prepared by LPL Financial, LLC.

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