Fed keeps rates on hold in September

2024-03-24 20:57

  • What’s happened?

    The Federal Reserve (Fed, the central bank) kept its policy rate unchanged at 5.25-5.5% in September. In its last four meetings (May-September) the Fed has alternated between raising and holding rates as it proceeds cautiously in the final stages of its tightening cycle. The latest Fed projections include one more rate increase in 2023, although the committee is divided (EIU believes that the Fed is most likely done tightening). The projections also point to a slower pace of easing in 2024-25 than the Fed and markets had previously expected, which will push up bond yields in the coming weeks.

    Why does it matter?

    US financial markets have pushed back their expectations for the first rate cut in recent months. In May investors were still pricing in a rate cut before end-2023, but by September this had moved back to July 2024—in line with our long-standing expectation. As EIU has previously highlighted, investors’ moves to price in higher-for-longer interest rates will have a dampening effect on economic activity through several channels, including high mortgage rates, tighter lending standards and sustained risks to banks’ balance sheets.

    This shows yields on US Treasury bonds of various maturities, indexed to 100 at July 3rd, 2023. Yields were fairly steady from July to mid September. However, long term yields, including on 2 year and particularly 10 year bonds, jumped noticeably after the Fed September meeting.

    These factors are likely to weigh more heavily on consumer spending moving forward. EIU expects real private consumption to contract slightly in the fourth quarter, albeit from a high level, and to make only a tepid recovery in the first half of 2024. Assuming that the Fed starts to lower interest rates from July 2024, EIU expects consumer spending to pick up more noticeably in the second half of that year. Real GDP growth will largely follow these trends, with real growth of about 2% in 2023 and less than 1% in 2024.   

    The Fed’s economic outlook is more positive than ours and was revised up significantly between the central bank’s June and September projections. This has most likely fuelled investors’ expectations for more aggressive Fed policy in the months and years ahead. The Fed now expects real GDP growth of 2.1% in 2023 and 1.5% in 2024—although both the Fed’s forecasts and our own reflect a soft landing for the US economy, with only a modest rise in unemployment and a gradual deceleration in price growth.  

    This chart shows the projected path for headline and core inflation in late 2023 and throughout 2024. Core inflation is forecast to decline gradually, reaching the Fed 2 percent target around mid 2024. Headline inflation will follow a similar trend, but will remain choppier. The right hand chart shows EIU expectations for the Fed policy rate, which remain at the current peak until Q3 2024 and then decline only gradually, by a total of 50 basis points in the second half of 2024.

    What next?

    EIU maintains the view that the Fed will not raise interest rates further, assuming that disinflation continues and consumer demand softens in September-October. However, if inflation is higher than expected, the Fed will raise rates once more in November. EIU still expects the first rate cut in July 2024, but given the Fed’s cautious language in September, we will slow the pace of rate cuts to 50 basis points in 2024, from 75 previously. 

    The analysis and forecasts featured in this piece can be found in EIU’s Country Analysis service. This integrated solution provides unmatched global insights covering the political and economic outlook for nearly 200 countries, enabling organisations to identify prospective opportunities and potential risks.