MNI INSIGHT: High Bar To Clear For Half-Point Fed Cut

--Quarter-Point Cut Seen As Insurance Against Further Inflation Slippage

By Jean Yung

     WASHINGTON (MNI) - A 50-basis-point reduction in interest rates at the July

FOMC meeting would only be warranted if substantial evidence points to a

deteriorating outlook for the U.S. economy, MNI understands.

     Futures markets have priced in a July rate cut with certainty since Chair

Jay Powell's press conference last month, and the debate now centers on whether

the reduction will be 25 basis points or 50. The MNI PINCH shows a one-in-four

chance of a 50 bps cut this month. Fed policymakers at the June meeting were

roughly evenly split between leaving rates unchanged this year and cutting by

half a point by the end of the year.

     A quarter-point cut would likely be understood as insurance against either

a more severe downturn or further slippage in inflation and inflation

expectations. 

     Trade tensions and a global slowdown continue to weigh on U.S. growth this

year, while inflation and inflation expectations have come in weaker than

expected. In keeping with the Fed's strategy of risk management, a small rate

decrease would both help bolster spending and signal the Fed's seriousness about

getting back to its 2% inflation target, MNI understands. 

     The FOMC revised lower its estimate of the neutral rate to 2.5% in June,

meaning the current target range of 2.25% to 2.50% may be less accommodative

than previously thought. A lowered rate would ensure that policy remains

slightly accommodative to facilitate hitting the inflation target. 

     Similarly, under the same risk management approach, a more conservative

move would allow policymakers time to judge the effects of their actions. Just

as the FOMC undertook a gradual tightening trajectory over a long period of time

after lifting rates from zero, easing modestly buys time to see how trade talks

develop and business sentiment evolves, MNI understands.

     If the downside risks don't materialize, a resulting strengthening in

aggregate demand and stronger inflation would be a good outcome regardless.

     By contrast, a significant deterioration in the outlook would argue for a

bigger dose of accommodation to help stabilize the economy. Powell last month

endorsed the view that the next recession should be confronted with maximum

force. Absent that, an aggressive cut risks sending the wrong signal to

investors about a bigger downturn that simply isn't there. 

--MNI Washington Bureau; +1 202-371-2121; email: jean.yung@marketnews.com

[TOPICS: MMUFE$,M$U$$$,MX$$$$]