New York, CNN — Federal Reserve Chair Jerome Powell is typically known for signaling the central bank’s next interest rate move to prevent market turmoil. However, this week, Wall Street was largely unprepared for the size of the rate cut announced on Wednesday.
What made this situation different?
The Fed implemented a surprising half-point cut, which traders did not anticipate just a week prior. Most had expected a more traditional quarter-point reduction based on fed funds futures, which reflect market expectations for upcoming Fed actions.
By Friday, just four days before the Fed’s two-day policy meeting began, the odds of a half-point versus a quarter-point cut were evenly split at 50-50. However, by Monday, expectations began to lean slightly toward a half-point cut, albeit with less certainty than typically observed so close to a meeting, highlighting the ongoing ambiguity surrounding the Fed’s decisions.
This uncertainty among traders likely mirrored the Fed officials’ own hesitations leading up to the meeting. Nevertheless, it doesn’t necessarily imply that future rate decisions will be equally difficult for the market to predict.
In a significant speech at the Fed’s annual economic symposium in Jackson Hole, Wyoming, last month, Powell stated that “the time has come” for interest rate cuts, but he did not specify their size or pace.
On Wednesday, he acknowledged this oversight, mentioning that Fed officials had also “left it open going into blackout” — a period when officials cannot publicly discuss monetary policy before and after meetings.
In the days preceding the Fed meeting, two key economic reports were released: the Consumer Price Index (CPI), which tracks inflation, and the Producer Price Index (PPI), which measures wholesale price changes. The CPI report indicated that annual inflation eased to 2.5% in August, the lowest since February 2021, while the PPI showed a slowdown in wholesale prices to 1.7% from 2.1% the previous month.
This data likely influenced some Fed officials to reconsider their stance. On Friday, Fed Governor Christopher Waller noted that the inflation figures pushed him toward supporting a half-point cut, although he had previously thought a quarter-point cut would be reasonable.
Despite the impending announcement, many top economists still believed the cautious Fed would opt for a quarter-point cut. Thomas Simons, a senior economist at Jefferies, expressed skepticism that the Fed’s economic outlook would change significantly at the meeting. “We must have misheard the message,” he remarked, as the data released during the blackout period did not suggest the need for a larger cut.
The decision for a jumbo cut was not unanimous. All but one of the 12 members of the Fed’s monetary policy committee voted in favor of the half-point reduction, marking the first non-unanimous interest rate decision in over two years. The lone dissenter, Fed Governor Michelle Bowman, advocated for a smaller quarter-point cut to avoid potentially overheating demand and reigniting inflation.
Bowman’s dissent highlights the internal debates that may continue at future meetings. She cautioned that the larger cut could be seen as a premature declaration of victory regarding inflation. However, Powell emphasized that officials are not celebrating, stating, “We’re certainly not saying mission accomplished.”
With the rate-cutting cycle now underway, officials face more complex decisions. Waller indicated that if economic data remains stable, a quarter-point cut might be feasible at the next meeting. Conversely, if labor market data weakens or inflation continues to soften unexpectedly, a half-point cut could be warranted. However, if inflation rises, Waller suggested that not cutting at all could be justified.
This underscores the inherent uncertainty surrounding Fed decisions based on forthcoming economic data. “But we do not expect Fed officials to be intentionally opaque,” noted Andrew Husby, senior U.S. economist at BNP Paribas.