Fed set to cut rates for first time in four years

See Powell's important announcement about inflation and the economy

02:38 - Source: CNN

It’s September 18 and the Federal Reserve is set to announce at 2 pm ET that it is cutting interest rates for the first time in a while.

That exact situation has actually happened before. On September 18, 2007, the Fed delivered a half-point rate cut to address turmoil in the housing market. The air was also rife with uncertainty over whether the Fed would roll out a quarter-point cut or slash rates by half a point — just like right now.

But, of course, the economy’s circumstances right now are a lot different than they were 17 years ago. The Fed’s September 2007 rate cut occurred a few months before the Great Recession, as new mortgages entering foreclosure began to climb and the job market also displayed concerning signs of weakness.

The situation right now isn’t as dire as it was back then. America’s housing market is struggling with an acute affordability crisis, but there isn’t a subprime mortgage problem that’s threatening the country’s financial system. And yes, the job market has slowed over the past year, but job growth remains healthy and unemployment is still at historically low levels. In July and August 2007, the US economy lost jobs for the first time in four years.

Stocks sky-rocketed after the Fed cut rates by half a point in September 2007, with the Dow up 2.5% and the S&P 500 rising by nearly 3%.

Stocks were mixed Wednesday morning as investors awaited the Federal Reserve’s latest interest rate decision.

The Dow fell 53 points, or 0.1%. The S&P 500 added 0.02% and the Nasdaq Composite ticked up 0.2%.

Investors are divided about whether the Fed will announce a quarter- or half-point rate cut at 2 pm ET. While the central bank generally tends to telegraph its next move before its policy meetings, its signals have been less clear this time around.

Investors leaned toward a quarter-point cut last week after data showed that consumer inflation slowed to its lowest rate since February 2021.

But some current and former Fed officials in recent weeks have signaled that they support a half-point cut, and bets on such a move have gained traction on Wall Street. And while the US labor market remains strong historically, the Fed has warned that more cooling there could spell trouble for the economy.

Traders see a 61% expectation that the Fed will ease rates by half a point, versus a 29% chance for a quarter-point cut, according to the CME FedWatch Tool.

Wall Street will be locked in to Fed Chair Jerome Powell’s press conference at 2:30 pm ET for clues about how much and how quickly the central bank expects to cut rates over the coming months.

A single percentage point change in mortgage rates may not seem like a lot, but it can translate into thousands of dollars of savings per year for the average US home buyer.

Mortgage rates were already falling ahead of the Federal Reserve’s expected interest rate cut. The average 30-year fixed mortgage rate fell to 6.20% last week, the lowest level since February 2023.

Sean Grzebin, head of consumer originations at Chase Home Lending, told CNN he’s already seeing an uptick in home buying demand due to the recent drop in rates.

“There’s been a lot more activity than we would typically see this time of year because of optimism around mortgage rates,” he said.

Grzebin said that Fed Chair Jerome Powell’s commentary will likely affect whether mortgage rates drop even further.

“If the Fed comes out with a more cautious tone, then I think rates will settle in around where they are now,” he said. “If it looks like there will be more cuts than signaled so far, I think you’ll see more of an impact on mortgage rates.”

While the Fed doesn’t directly set mortgage rates, its actions affect borrowing costs throughout the economy.

People who follow the Federal Reserve’s monetary policy decisions are obsessing over whether the central bank will cut interest rates by a quarter point or a half point when it releases its decision at 2 pm ET on Wednesday.

Generally, the Fed prefers to make interest rate moves in quarter-point increments. But when it looks like there’s an imminent threat to the economy, typically either from prices rising too quickly or the labor market cooling too much, central bankers opt for larger interest rate moves at a single meeting.

A week ago, traders were convinced the Fed would cut by a quarter point. But now the majority of them are leaning toward a half point, according to fed funds futures. So if the Fed doesn’t produce what they expect, that risks disappointing markets and sparking a major selloff.

The ironic thing about this is that for most Americans, the difference between a quarter-point cut versus a half-point cut at this meeting will be pretty insignificant.

That’s because it could take years before the full effects of an interest rate cut are felt across the economy. And even though the interest rates you pay to borrow money will go down over time with a rate cut, it won’t necessarily drop the second the Fed cuts.

In addition to the Federal Reserve announcement on Wednesday, several other central banks across the world are making rate decisions this week as inflation returns to more normal levels.

The Bank of England is likely to hold rates steady Thursday after cutting borrowing costs for the first time since Covid last month.

The Bank of Japan is set to announce its decision Friday. Unlike policymakers in other global economies, it has raised rates in recent months as inflation has returned to Japan’s economy following three decades of falling consumer prices. BOJ Governor Kazuo Ueda is expected to keep rates at 0.25%.

Central bankers in Norway, Taiwan, Turkey, South Africa and Ukraine are also set to announce their latest policy moves on Thursday.

The Federal Reserve’s decision is just a few hours away and there remains an unusual amount of uncertainty over what officials will do.

There’s no doubt the Fed is cutting for the first time since Covid — but by how much remains up for debate.

In recent days, there has been a break in favor of going big, with a 65% chance priced in to the futures market of a half-point cut. There is a 35% chance of a more typical quarter-point cut.

Going with a bigger cut could hint at underlying concerns among Fed officials about the health of the economy.

It’s a pivotal week for the US economy, with the Federal Reserve expected to cut interest rates for the first time since 2020. The move would mark a major milestone both for the central bank’s long fight with inflation and for Americans battling a higher cost of living for the past two years.

But it’s also an expectation that is coming to fruition much later than the Fed and Wall Street expected in the beginning of the year.

Fed officials and investors have long anticipated that borrowing costs would come down in 2024 — at some point — according to their economic forecasts. At the end of last year, the air was brimming with hope that the Fed would start cutting rates early in 2024, easing pressure not just for consumers, but also for businesses of all sizes hampered by higher costs. A spring rate cut seemed to be in the cards around the turn of the year, according to the futures market, and most major Wall Street banks estimated the first rate cut’s arrival sometime before the summer.

But nine months in, rate cuts still haven’t happened, drenching Wall Street’s parade and leaving US consumers squeezed by elevated interest rates. All that could start to change this afternoon.

Lael Brainard, director of the National Economic Council, said Tuesday the US economy has reached “an important turning point” where the inflation surge has largely ended.

The speech came just one day before the Federal Reserve is set to cut interest rates for the first time since Covid. 

Formerly number two at the Fed, Brainard said lower interest rates would benefit home seekers, noting: “We need more homes, ultimately, to get to greater affordability. That will be more possible in an environment that is more supportive in terms of the market interest rates.”

Wall Street remained optimistic but jittery Wednesday morning ahead of the opening bell.

Futures on the S&P 500 were up just 0.1% and Nasdaq futures gained 0.2%. Dow futures were up around 0.1%.

The S&P 500 and the Dow both hit new record highs this week as bets grew for a half-point cut from the Federal Reserve.

But with just hours to go before the Fed’s announcement at 2 pm ET, traders remain divided over the issue of the exact size of the central bank’s rate reduction. Treasury yields moved up early Wednesday and the dollar fell.