Federal Reserve Before Rate Cut: Balancing Act Between Inflation and Labor Market

The US Federal Reserve is facing another rate cut while simultaneously pursuing a more cautious approach to further cuts in the coming year. This measure comes against the backdrop of sluggish progress in controlling inflation and could mark the third consecutive cut this year. The Federal Reserve's Open Market Committee plans to lower its benchmark interest rate by a quarter percentage point when the two-day meeting ends on Wednesday, about a month before Donald Trump begins his second term as President. This takes place in an environment where policymakers are treading a fine line: cutting rates too quickly could set inflation above the 2 percent mark, while acting too slowly could significantly weaken the labor market. In light of recent developments, the US economy appears stronger and inflation higher, suggesting a more gradual reduction in the interest rate. Nevertheless, the Fed believes that the current interest rate levels are restraining demand and thus inflation, and aims for a "neutral" monetary policy stance that is less restrictive to growth. Furthermore, recent consumer price index reports show encouraging signs, particularly the long-awaited slowdown in the rise of housing-related costs. A recent "mini-boom" in US productivity, as described by Fed veteran John Roberts, provides additional optimism that higher wages and a strong economy might be compatible with declining inflation. After the likely downward adjustment on Wednesday, the new target range for the Federal Funds Rate will lie between 4.25% and 4.5%. However, there is an unclear perspective on further actions. Fed Chair Jay Powell emphasizes that the Federal Reserve is not in a hurry to cut rates, yet specific information on the pace is lacking. Uncertainty about the exact level of the neutral interest rate remains. Esther George, the former president of the Kansas City Fed, expressed doubts about the necessity of further rate cuts and advocated for a longer pause. Current forecasts predict a less aggressive reduction next year than previously thought. In the context of the expected policies under Trump, with tariffs and regulations announced during the campaign, significant uncertainties are anticipated. A majority of economists surveyed by the Financial Times revised their forecasts and expect higher interest rates by the end of 2025. Trump's political plans could influence both the dynamics of inflation and complicate the Fed's tasks. Fed expert Bill English expects that the Fed will be more constrained this time, potentially leading to an even slower pace of rate adjustments. In the current uncertainty, Powell may therefore not give clear signals regarding interest rate policy on Wednesday.