The recent slew of weaker-than-expected economic data has sent shockwaves through the markets, with a surprise uptick in the unemployment rate triggering a closely watched recession indicator. This unexpected turn of events has investors on edge, as they grapple with the realization that bad economic news may indeed be bad news for markets. The growth trajectory is now coming into closer focus, prompting economists to weigh in on the potential risks to the Federal Reserve’s current interest rate policy.
Economists are largely in agreement that the risks of the Fed holding interest rates too high and potentially stunting economic growth have increased. The consensus, however, is split on how quickly and decisively the Fed should adjust its policy to address these risks. Market expectations have shifted dramatically in recent days, with investors now pricing in more than five interest rate cuts by the end of the Fed’s January 2025 meeting – two more cuts than previously anticipated just a week ago.
This shift in market sentiment reflects the growing belief among economists that the Fed is „offside“ and that a policy adjustment is necessary. Inflation is falling, and current interest rate levels are becoming increasingly restrictive, despite no action from the Fed. Wells Fargo chief economist Jay Bryson has called for 100 basis points of cuts across the Fed’s next two meetings, emphasizing the need for a swift return to a more neutral policy stance to avoid a potential downward spiral of labor market weakness and sluggish spending.
On the other hand, Deutsche Bank’s economics team, while standing by their call for three interest rate cuts this year, remains cautious. Senior US economist Brett Ryan cautions against overreacting to one data point, such as the weakness in the July jobs report, which could be attributed to one-time issues like Hurricane Beryl. Ryan emphasizes the importance of further data to determine whether this weakness is an aberration or the start of a concerning trend.
As the debate over the Fed’s next move continues, market participants are left in a state of uncertainty, with some advocating for a more aggressive pace of rate cuts while others urge caution and a wait-and-see approach. The coming months will be crucial in determining the path forward for the Fed and the broader economy, as policymakers grapple with the delicate balance between supporting growth and managing potential risks.