Fed To Signal Cuts Are Coming

After hiking interest rates four times in 2018 the Federal Reserve has taken a more cautious approach to monetary policy in 2019.

Concerns about the economic implications of President Trump’s willingness to use trade tariffs in disputes with other countries means that downside risks to growth are building. On Wednesday, we expect the Fed to signal precautionary rate cuts are in the offing. Markets favour a 25bp rate cut in July with three additional rate cuts over the next twelve months.

We are a little more cautious seeing two 25bp moves in the second half of 2019, given the underlying strength of the US economy and our belief that President Trump will want a trade deal signed well ahead of the presidential elections next year - see our latest forecast update for more.

Trade tensions creating downside risks

US-China trade tensions continue to intensify and there seems little prospect of a deal later this month, as had once been hoped. China will not want to be seen as having been successfully bullied into agreeing to US demands while President Trump’s view that tariffs are boosting US Treasury coffers and that the “strong” US economy can withstand near-term pain suggests he's not going to back down either. Tariff hikes seem likely.

Faced with the uncertainty of an intensifying trade dispute and the higher costs and weaker profit outlook it generates, many firms may act more cautiously. This implies a slowdown in investment and hiring, which in turn leads to lower consumer spending and the threat of an economic downturn. Recent data already suggests the economy is more vulnerable to the fallout than it was in the second half of 2018 with payrolls having softened substantially and manufacturing data looking weaker.

Language change - "patient" dropped, "closely monitoring" is in

Since January, the Fed has signaled a willingness to be “patient” on assessing whether a change in interest rate policy was going to be required. However, Fed Chair Jerome Powell has already laid the groundwork for a shift in stance by suggesting officials were now “closely monitoring” the implications of the protracted trade negotiations for the economy.

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