Fed's "Great Pivot" Signals Easing Charge, Rate Cuts Gather Momentum

As the Federal Reserve's "great pivot" initiates its first rate cut, the momentum for a global easing tide is growing stronger.

In the past month, the Federal Reserve has aggressively cut interest rates by 50 basis points, while the European Central Bank, the Bank of Canada, the Bank of Indonesia, and the South African Reserve Bank have each cut rates by 25 basis points; the Bank of England, the Bank of Japan, and the Reserve Bank of Australia have all "held their positions"; under inflationary pressure, the Central Bank of Russia unexpectedly raised rates by 100 basis points, and the Central Bank of Brazil slightly increased rates by 25 basis points.

To intensify the counter-cyclical adjustment of monetary policy and support stable economic growth, the People's Bank of China has decided to adjust the interest rate for open market 7-day reverse repurchase operations from the previous 1.70% to 1.50% starting from September 27th. At the same time, the reserve requirement ratio for financial institutions will be lowered by 0.5 percentage points (excluding financial institutions that have already implemented a 5% reserve requirement ratio). After this adjustment, the weighted average reserve requirement ratio for financial institutions will be approximately 6.6%.

Advertisement

Overall, after the Federal Reserve's aggressive rate cut, central banks in developed and emerging markets have more room for monetary policy, allowing them to adopt more flexible monetary policies in response to economic pressures without excessive concern for external balance conditions. As the Federal Reserve's "great pivot" sounds the charge for easing, the tide of rate cuts is "gaining momentum."

The Federal Reserve's "Preventive" Aggressive Rate Cut

As the Federal Reserve shifts its policy focus from fighting inflation to stabilizing employment, the once "torn" Federal Reserve ultimately chose to aggressively cut rates. On September 18th, the Federal Reserve announced a rate cut of 50 basis points, lowering the target range for the federal funds rate from 5.25% to 5.5% to 4.75% to 5%. The last time the Federal Reserve cut rates was in March 2020, at the beginning of the COVID-19 pandemic outbreak, and the two rate cuts have been separated by more than four years.

The lessons from past misjudgments of inflation are still fresh in memory, with rate hikes coming too late; rate cuts cannot afford to be delayed again. The Federal Reserve's aggressive 50 basis point rate cut this time can be considered reasonable.

At a time when inflation risks are weakening and labor market risks are increasing, the Federal Reserve has chosen a "great pivot" in monetary policy to boost the labor market, with the key reason being not wanting to let a soft landing fail. Federal Reserve Chairman Powell stated that inflation levels have come closer to the target, with the upside risks to inflation having diminished, while the downside risks to the labor market have increased.

Overall, the Federal Reserve hopes to achieve a dual mandate. Powell emphasized that the Federal Reserve is working hard, "to restore price stability without a painful increase in unemployment, which sometimes accompanies deflation." Investors should view the Federal Reserve's 50 basis point rate cut as a signal of its "firm commitment" to achieve its goals.After this interest rate cut, monetary policy remains tight, and the Federal Reserve's rate cut this time is more about getting monetary policy out of a highly restrictive level. Although the Federal Reserve cut interest rates by 50 basis points, it is expected that interest rates will remain in a restrictive range for some time at least until 2025. The Federal Reserve still believes that inflation will not return to the 2% target level until 2026. The median of the core PCE inflation rate for 2024 was reduced from 2.8% to 2.6%, the median of the core PCE inflation rate for 2025 was reduced from 2.3% to 2.2%, and the median of the core PCE inflation rate for 2026 remained at 2.0%.

Despite the slowdown in economic growth, the Federal Reserve still paints a picture of a "soft landing." The expected GDP growth for the United States in 2024 was revised down from 2.1% to 2%, and the growth rate for the next three years will remain at this level, with the long-term growth rate remaining unchanged at 1.8%; the unemployment rate expectation for this year was raised from 4% to 4.4%, and for the next three years it will be 4.4%, 4.3%, and 4.2%, respectively.

Regarding the economic outlook, Powell clearly stated that there are currently no signs of a recession in the U.S. economy, nor does he believe that a recession is imminent. The Federal Reserve is increasingly convinced that the strong momentum of the job market can be maintained while adjusting the policy interest rates. Economic activity continues to expand at a "solid pace," and growth in the second half of this year is expected to be similar to that in the first half. The U.S. economy is in good condition, and the 50 basis point rate cut aims to maintain this state.

From the official informal forecasts, a 50 basis point rate cut may not become the norm. The much-anticipated dot plot shows that the median of the 19 policymakers' expectations for the Federal Reserve's interest rate at the end of 2024 falls between 4.25% and 4.5%. This means that they collectively believe that there will be an additional cumulative rate cut of 50 basis points on top of the current level by the end of the year, with each cut being 25 basis points.

Uncertainty remains the tone for future monetary policy. When asked about the Federal Reserve's next move, Powell said that, considering the balance of risks, the Federal Reserve chose to lower interest rates by 50 basis points this time, but there is no fixed interest rate path set for the future, and decisions will be made at each meeting. "No one should think that a 50 basis point rate cut is a new trend, and one should not draw such a conclusion based solely on this rate cut. In other words, do not bet on a 50 basis point rate cut next time."

Regarding the much-anticipated neutral interest rate, Powell said he does not know the exact level, but it should be much higher than before the pandemic. The Federal Reserve's dot plot shows that the interest rate at the end of 2025 will fall between 3.25% and 3.5%, which means that there will be a cumulative rate cut of 100 basis points next year. In 2026, there will be a rate cut of 50 basis points, and the long-term interest rate will remain between 2.75% and 3%.

Under economic pressure, the European Central Bank cuts interest rates again

In June of this year, the European Central Bank started a rate-cutting cycle, becoming the second G7 central bank to cut rates after the Bank of Canada. After "standing still" in July, the European Central Bank cut interest rates again in September.

On September 12th, the European Central Bank announced its interest rate decision, lowering the deposit facility rate by 25 basis points and the main refinancing rate and marginal lending rate by 60 basis points. The asymmetric rate cut aims to ensure market conditions are controllable during the balance sheet reduction by adjusting the interest rate spread between deposits and loans. After this rate cut, the main refinancing rate, marginal lending rate, and deposit facility rate are 3.65%, 3.90%, and 3.50%, respectively.Behind the European Central Bank's (ECB) decision to cut interest rates again, a weak economy is the key reason. On September 6th, data from Eurostat showed that the second quarter Eurozone GDP final value increased by 0.2% quarter-on-quarter, lower than the preliminary estimate of 0.3%; year-on-year growth was 0.6%, in line with expectations. Germany's second quarter GDP declined due to the drag from the manufacturing sector, which is also a key reason for the weak Eurozone economy.

The ECB has revised down its economic growth forecasts, currently expecting Eurozone GDP to grow by 0.8% this year, lower than the 0.9% forecasted three months ago; it expects a GDP growth rate of 1.3% in 2025, previously 1.4%; and expects a GDP growth rate of 1.5% in 2026, previously 1.6%.

In terms of inflation prospects, the ECB expects an overall inflation rate of 2.5% this year and 2.2% next year, unchanged from the June forecast, but higher than the ECB's 2% target. Due to persistently high inflation in the service sector, the core inflation expectations for the next two years have been revised upwards. The ECB expects the core CPI growth rate to be 2.9% this year, previously forecasted at 2.8%; and 2.3% in 2025, previously forecasted at 2.2%.

As economic headwinds continue, it is highly likely that the ECB will continue to cut interest rates in October. On September 30th, ECB President Christine Lagarde appeared at the new European Parliament, attending a hearing of the Committee on Economic and Monetary Affairs, where she clearly stated that policymakers in the Eurozone have become "more optimistic" about their ability to control inflation, and this sentiment will be reflected in the next monetary policy meeting.

Under inflationary pressure, the Bank of England "stands still"

Despite the ECB, the Federal Reserve, and others cutting interest rates, the Bank of England has temporarily adopted an intermittent rate-cutting strategy.

On September 19th, the Bank of England's Monetary Policy Committee (MPC) decided to keep interest rates at 5% with a vote of 8 in favor and 1 against, a cautious move that contrasts sharply with the Federal Reserve's decision to cut rates by 50 basis points. At the same time, the Bank of England announced that it would maintain the pace of reducing its holdings of government bonds by £100 billion per year.

Although the Bank of England cut interest rates before the Federal Reserve, the pace was much slower. In early August, the Bank of England lowered the benchmark interest rate by 25 basis points to 5%, but it has now been overtaken by the Federal Reserve, which has cut rates by 50 basis points in a single move.

Stubborn inflation is the key reason. On September 18th, data released by the UK's Office for National Statistics showed that the CPI rose by 2.2% year-on-year in August, unchanged from July; core inflation rose by 3.6% year-on-year, higher than the 3.3% in July; and the service sector inflation, which the Bank of England closely monitors, rose to 5.6% in August, higher than the 5.2% in July.Bank of England Governor Bailey expressed that he is "optimistic" about further interest rate cuts, but the Bank of England first needs to see more evidence of cooling price pressures. The Bank of England stated that inflation could rise to around 2.5% by the end of the year, slightly lower than the previously forecasted 2.75%, mainly due to falling oil prices. Economically, the Bank of England expects economic growth to slow to 0.3% in the third quarter, slightly lower than the 0.4% forecasted in August.

Despite the short-term "standstill," the Bank of England will continue to cut interest rates in the future. Bailey also indicated that the Bank of England should be able to gradually lower interest rates, a path that will depend on whether price pressures continue to ease. "Maintaining low inflation is crucial, so we need to be cautious not to cut interest rates too quickly or by too much."

Monetary policy differentiation cannot conceal the main tone of easing.

Under the main tone of interest rate cuts, central banks are not monolithic, and the unconventional Bank of Japan is in a phase of observing monetary policy normalization. On September 20, the Bank of Japan kept interest rates unchanged but hinted at future rate hikes. The improving domestic economic situation in Japan will help continue to push for policy normalization and exit from unconventional monetary stimulus policies that have been in place for many years.

Bank of Japan Governor Haruhiko Kuroda said at a press conference that monetary policy decisions will depend on current economic, price, and financial developments. Japan's real interest rates remain very low, and if economic and price expectations are met, the Bank of Japan will raise interest rates.

However, it is unlikely that the Bank of Japan will raise interest rates in October. Kuroda emphasized that if the data allows, the Bank of Japan will raise the benchmark interest rate again, but there is no rush to do so now. "In formulating policy, the Bank of Japan needs to carefully assess developments in domestic and international financial and capital markets, as well as the overseas economic situation behind these developments, and we have enough time."

Behind the slight differentiation in the monetary policies of major central banks, the shift towards easing remains the main tone, and the wave of interest rate cuts has only just begun.

The Federal Reserve's aggressive interest rate cuts have opened up global easing space, and it is only a matter of time before most central banks cut interest rates.

Following the Federal Reserve's "big shift," the South African central bank also cut the repurchase rate by 25 basis points to 8%, the Central Bank of Kuwait cut interest rates by 25 basis points to 4%, the Central Bank of Bahrain lowered the overnight deposit rate by 50 basis points to 5.5%, the Central Bank of the United Arab Emirates cut the overnight deposit rate by 50 basis points to 4.9%, and the Central Bank of Qatar lowered the deposit rate by 55 basis points to 5.2%.Even before the Federal Reserve's rate cut, anticipating the Fed's action, the Bank of Indonesia unexpectedly announced on September 18th that it would lower its benchmark interest rate by 25 basis points to 6%, marking the first rate cut by the Indonesian central bank since February 2021. The Bank of Indonesia noted that investors are now expecting the Federal Reserve to cut rates faster than anticipated earlier this year, which should support the Indonesian rupiah.

Inflation rates in Asia have risen less than in other parts of the world, and many central banks in Asia that have not yet cut rates are among those that have not done so. With the potential currency devaluation risks alleviated after the Federal Reserve's rate cut, more Asian central banks will have more incentive to join the rate-cutting camp. JPMorgan expects the Reserve Bank of India to cut rates in October, and the central banks of South Korea and Thailand may also take action before the end of the year.

Looking ahead, downward pressure on the US economy will gradually increase, and the Federal Reserve will continue to cut rates, further improving the global liquidity environment and financing conditions. As the Federal Reserve's substantial rate cuts sound the clarion call for easing, the momentum of this round of global rate cuts will grow increasingly strong.