MNI: Fed Seen Sticking To 25BP Cut In Sept Post-CPI- Ex-Staff

MNI (WASHINGTON) - Federal Reserve policymakers are likely to coalesce around a quarter point interest rate reduction at their meeting next month barring more unexpectedly weak jobs data, despite market pricing showing roughly even odds of a larger half-point move, former Fed staffers told MNI Wednesday. 

Investors seized on a weaker-than-expected July jobs report, especially a spike in the U.S. jobless rate to 4.3%, to extrapolate a more aggressive start to the Fed’s rate cutting cycle. Still, policymakers have so far not explicitly committed to a 25 basis-point cut in September, much less a 50bp one.

“A 25bp cut is my base case,” said Joseph Wang, former senior trader on the Federal Reserve Bank of New York's Open Market Desk. “Policy is transmitted through the implied path of policy. I think the Fed would telegraph a series of 25bp cuts rather than start with a 50bp cut, which would express a sense of urgency inconsistent with the tone of recent Fed speakers." 

July PPI and CPI data this week showing ongoing abatement in price pressures is supportive of Fed cuts, but doesn’t necessarily signal any need to start the cutting cycle with a bang, said Wang.

“The Fed's preferred measure of inflation is PCE, but a benign CPI and PPI implies that PCE will also show good progress towards 2%. Powell all but promised a cut in September provided no bad surprises, and this is not a bad surprise,” said Wang. (See MNI INTERVIEW: Fed Well-Placed For Sept Cut-Weinberg)

MAJOR PIVOT 

In response to a question from MNI at the July press conference about the prospect of a half-point cut, Fed Chair Jerome Powell said: "That’s not something we’re thinking about right now.” Fed speakers since then have given no clear indication that a larger move is on the table next month.  

Officials in June penciled in a median of just one 25bp cut this year, which would make a shift to a 50bp move just three months later unusually hawkish. At the same time, market commentators have noted that two of the past three cutting cycles started with a half-point cut – and the fed funds rate is currently far above Fed estimates of neutral. 

“I am looking at the gap between the fed funds target and the 2-year Treasury. It is approaching 150bp. Given the size of the gap, I could imagine a 50bp cut,” said Joseph Haslag, a former senior economist at the Dallas Fed. 

But the bar is high, he added. “My own guess is that unless September comes in with a great inflation number, the cut will be 25bp. This is a cautious Fed with an eye towards pretty well-established trends. Trends take time to develop.” 

50 BP CUT STILL POSSIBLE

Krishna Guha, a former executive vice president at the New York Fed, thinks 50bp is still possible but says it all hinges on the labor market – specifically the August jobs report that comes out just before the Fed enters its pre-September meeting blackout. He believes Powell will signal as much in his upcoming speech at the Jackson Hole conference. 

“Jackson Hole sets out the reaction function, including a forward-leaning approach to risk management and a readiness, given inflation progress, to pull forward some easing to guard against downside risks to employment and secure the soft landing,” he said.  

“Powell can indicate that in judging the extent of easing required, the Fed will continue to be data-dependent, which essentially tells us that the next set of labor data determines 25s vs 50s. Then there would presumably be a buzz of communication, on and off the record, around the next jobs report to make sure people understand which bucket it falls into.” (See MNI INTERVIEW: No Alarm Bells Yet In July US Unemployment Jump)