21-09: Rate cut

Markets are calm and waiting for a direction

Without the US-China trade war and the Brexit soap, the markets would be in very calm weather. Central banks are keeping the bull market alive and do take the measures that are expected from them. These days, central banks prepare the markets quite well. Not many surprises have been happening in the last couple of years. This week the main event was the rate decision by the Fed, the central bank of the US. As expected, Fed chairman Powell announced to cut the interest rates by a quarter percentage point for the second time this year. It was the second rate cut in a decade.

Why a rate cut?

The Fed wants to keep the economy going. The labor market is still strong, the unemployment low and economic activity has been rising at a moderate rate. Though, business investments and exports have weakened. Moreover, the core inflation is running below 2% on a 12-month basis. That is on the low side. The economic outlook has worsened this year. The trade war and the Brexit soap have brought quite some uncertainty in the economy and businesses are less eager to invest and grow in the current environment. Based on this and the low inflation, the Fed decided to lower the interest rate to the target range of 1.75-2.00% (from earlier 2.00-2.25%). It gets cheaper for businesses to borrow money and the lower rate should help fight the uncertainty of the geopolitical challenges and uncertainties. In order to keep the economy going.

More rate cuts to come?

The members of the committee that decides, the FOMC, are quite split on what will (have to) happen next. For the meeting of this week, 7 out of 10 officials voted in favor of the cut, two opposed it and one wanted a half percentage point cut. Powell signaled that the rate cut was not the start of a downward cycle and said that the Fed keeps on monitoring incoming information and will act as appropriate to sustain the expansion. The members of the FOMC are having different opinions on what might happen next.

What factors will influence the future Fed decisions?

  • US-China trade war
  • Inflation figures
  • GDP growth
  • Job market numbers (Non Farm Payrolls)
  • Brexit developments

What does Trump want?

Trump can shout and be angry. But the Fed will decide what to independently of what Mr Trump wants. Trump wants lower and lower rates which will weaken the Dollar and will give a boost to the economy for his Nov 2020 election. Theoretically there is some dependence between Trump and the Fed. Trump can theoretically fire Mr Powell. He most likely would not do that as it would undermine the confidence in one of the most important organs, the central bank of the biggest economy.

Lower rates can boost the stock markets as the economy might get a boost from it and bond holders might shift their money towards stocks as well.

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