What to expect from this week's FOMC meeting

The Fed is set to cut interest rates for the first time since 2020 tomorrow, a move that consumers, businesses and investors alike have been eagerly awaiting. Lowering interest rates will mark the end of the central bank's policy of raising borrowing costs to curb inflation that has spiraled out of control starting in 2021. Forecasters and financial market participants expect the Fed's Policy Committee, which meets on Tuesday and Wednesday, to cut the federal funds rate by at least a quarter of a percentage point from its current range of 5.25% to 5.5%, where it has remained steady since July 2023.

 

Fed officials have indicated that interest rate cuts are coming, and the open question over the past several weeks has been how big they are. Some recent comments from Fed officials, as well as economic data showing some remaining inflation in the housing market, have suggested that the central bank may opt for a more conservative quarter-point cut rather than a half-point cut that some experts say may be on the table at the meeting. Maxime Darmet, a senior economist at Allianz Trade, said: "In this environment, I see no reason for the Fed to go crazy by cutting interest rates by 50 basis points. I think there's no reason to rush."

 

However, the biggest likely cut still stands: Financial markets were expecting a 49% cut of half a point on Friday afternoon, according to CME Group's FedWatch tool, which predicts price movements based on Fed fund futures trading data. In addition to setting the Fed Funds interest rate, Fed officials will provide economic forecasts on how quickly and how much interest rates will be cut in the coming years and months.

 

In this context, markets continued to consolidate their bearish stances towards the dollar ahead of the announcement of the Federal Open Market Committee tomorrow's decision. These foreign exchange market dynamics are a direct result of the ongoing expansionary repricing of interest rate expectations, with the swap market now tying an implicit probability of 70% (43 basis points) of tomorrow's 50 basis point rate cuts. The last two releases of key data (jobs and inflation) did not really signal a half-basis point rate cut, and the growing expansionary bets began late last week on the back of some media reports that tomorrow will be a decision of 25-50 basis points. One way to read recent market moves is that investors may be trying to be the deciding factor in the FOMC's potential decision. After former FOMC member Bill Dudley, who late last week made an argument in favor of a 50-basis point rate cut.

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