The Federal Reserve’s rate-cutting cycle appears to be drawing to a close, with the possibility of rate hikes in 2025 now on the table.
On Wednesday, the Fed cut the federal funds rate by 25 basis points to a target range of 4.25%-4.50%, as expected. However, the move was accompanied by hawkish signals, triggering sharp market reactions.
The dollar surged to a two-year high, stocks fell, and Treasury yields climbed. While market moves can overshoot, the Fed’s updated projections and Chair Jerome Powell’s press conference provided plenty of justification.
Notably, the decision wasn’t unanimous, as Cleveland Fed President Beth Hammack dissented. Powell described the cut as a “closer call” than previous decisions, emphasizing that policy is now “significantly less restrictive” and closer to neutral.
Policymakers also raised their median 2025 inflation outlook to 2.5% from 2.1%, increased their view of the neutral rate to a six-year high of 3.0%, and reduced projected rate cuts for 2024 to two.
Markets, however, are skeptical. They’re pricing in only 35 basis points of cuts next year, effectively calling the Fed’s bluff.
The skepticism stems from the Fed’s logic: projecting higher inflation in 2025 while planning to cut rates. This contradiction, coupled with strong growth and employment projections, has left investors unconvinced.
Apollo Global Management’s chief economist, Torsten Slok, believes there’s a 40% chance of a rate hike in 2025. Economist Phil Suttle also predicts a possible hike in July due to inflation driven by potential trade tariffs under President-elect Donald Trump.
While Powell dismissed rate hikes as unlikely, he acknowledged the unpredictability of future outcomes, stating, “You don’t rule things completely in or out in this world.”
Given the challenges of predicting Fed policy, maintaining flexibility seems wise for markets and policymakers alike.