The Federal Reserve’s likely slowdown in interest rate cuts could disappoint borrowers – BNN Bloomberg

WASHINGTON (AP) — Just a few weeks ago, the path forward for the Federal Reserve seemed straightforward: With inflation cooling and the labor market slowing, the Fed appeared to be on track to steadily cut interest rates.

In September, officials predicted they would cut their key interest rate four times next year, in addition to three rate cuts this year.

But this attitude quickly changed. Several surprisingly strong economic reports, combined with President-elect Donald Trump’s policy proposals, have led to a much more cautious tone from the Fed, which could lead to fewer cuts and higher interest rates than expected.

Fewer rate cuts would likely mean continued high mortgage rates and other borrowing costs for consumers and businesses. Car loans would remain expensive. Small businesses would still face high loan interest rates.

In a speech last week in Dallas, Chairman Jerome Powell made it clear that the Fed is not necessarily inclined to cut interest rates at every six-week meeting.

“The economy is not sending any signals that we need to be in a hurry to cut rates,” Powell said. “The strength we are currently seeing in the economy gives us the opportunity to approach our decisions carefully.”

His comments were widely seen as a signal of potentially fewer interest rate cuts in 2025, a view that caused stock prices to fall after rising with Trump’s election.

Trump has proposed higher tariffs on all imports as well as mass deportations of undocumented immigrants – moves that economists say would worsen inflation. The president-elect has also proposed a series of tax cuts and deregulation that could boost economic growth but would also fuel inflation if companies can’t find enough workers to meet increased consumer demand.

And recent economic data suggests that inflationary pressures may prove more persistent and economic growth more resilient than was thought just months ago. At his recent press conference, Powell suggested that the economy could even accelerate in 2025.

Wall Street traders and some economists now expect only two interest rate cuts next year instead of four. And while the Fed is likely to cut its key interest rate at its mid-December meeting, traders believe the likelihood that the central bank could leave the key rate unchanged is almost equal.

“I absolutely expect they will slow the pace of cuts,” said Jim Baird, chief investment officer at Plante Moran Financial Advisors. “Growth potential remains strong – that has to call into question whether they will feel the need or ability to cut rates at the pace they had previously forecast.”

Bank of America economists expect annual inflation to “stay” above 2.5%, above the Fed’s 2% target, given, among other things, the likelihood that Trump’s economic proposals, if implemented, would increase price pressure. Economists now expect only three interest rate cuts in the coming months, namely in December, March and June. And they expect the Fed to stop easing lending once its key interest rate, currently at 4.6%, reaches 3.9%.

Krishna Guha, an analyst at investment bank Evercore ISI, wrote last week: “We believe the impending Trump presidency is helping to change the tone of the Fed – including Powell – towards a more cautious and hedged stance on pace and Extent of further cuts.”

Trump has promised to impose a 60% tariff on all Chinese goods and a “universal” tariff of 10 or 20% on everything else entering the United States. On Wednesday, an executive at Walmart, the world’s largest retailer, warned that Trump’s tariff proposals could force the company to raise prices on imported goods.

“The tariffs will be inflationary for customers,” Walmart Chief Financial Officer John David Rainey told The Associated Press. Other consumer goods and retail companies, including Lowe’s, Stanley Black & Decker and Columbia Sportswear, have issued similar warnings.

In trying to determine the right level of interest rates, Fed policymakers face a significant obstacle: They don’t know how far they can further cut interest rates before they reach a level that neither stimulates nor slows down the economy – the so-called “neutral interest rate”. Officials don’t want to cut interest rates so much that the economy overheats and inflation reignites. They also don’t want to keep interest rates so high that they harm the job market and the economy and risk a recession.

An unusually large disagreement has emerged among the 19 officials on the Fed’s rate-setting committee over where the neutral interest rate lies. In September, officials jointly forecast that the neutral rate would be between 2.4% and 3.8%. Lorie Logan, president of the Federal Reserve Bank of Dallas, has noted that this range is twice as large as it was two years ago.

In a recent speech, Logan suggested that the Fed’s key interest rate may currently be only slightly above neutral. If so, that would mean few more rate cuts are needed.

Other officials disagree. In a recent interview with The Associated Press, Austan Goolsbee, president of the Fed’s Chicago branch, said he believes the neutral rate is much lower than the Fed’s current rate. If so, many more rate cuts would probably be in order.

“I still think we’re a long way from what anyone considers neutral,” Goolsbee said. “We still have a lot to do.”

Perhaps the biggest unknown is how Trump’s proposals on tariffs, deportations and tax cuts will influence the Fed’s interest rate decisions. Powell has stressed that the Fed will not change policy until it is clear what changes the new administration will actually implement.

However, as is typical at the Fed, Powell avoided commenting directly on the president’s policies. But he acknowledged that Fed economists are assessing the potential impact of a Trump presidency.

“We don’t really know what policies will be put in place,” Powell said. “We don’t know over what period of time.”

Another factor is that the economy is very different today than it was when Trump first took office in January 2017. With unemployment lower than it was then, economists say, additional stimulus through tax cuts could create more demand than the economy can handle, which may be the case could fuel inflation.

Tax cuts “from an economy near full employment will lead to inflation and therefore higher Fed interest rates and a stronger dollar,” Olivier Blanchard, a former top economist at the International Monetary Fund and a senior fellow at the Peterson Institute for International Economics, wrote recently in a comment.

When Trump imposed a series of tariffs on imports from China as well as steel, aluminum and washing machines in 2018, Fed economists prepared an analysis of how to respond.

Your conclusion? As long as the tariffs were one-time increases and the public did not expect inflation to rise, the Fed would not have to respond by raising its key interest rate.

But last week Powell acknowledged that the economy is different now and inflation poses a greater threat.

“Six years ago,” he said, “inflation was really low and inflation expectations were low.” And now we’re way down again, but we’re not back where we were. It’s a different situation.”