The US Federal Reserve is anticipated to adopt a gradual approach to easing monetary policy, according to a recent note from Fitch Ratings.
The agency forecasts that the Fed will reduce interest rates modestly in the coming months, with a “mild” easing cycle compared to historical standards.
Fitch’s global economic outlook report for September predicts that the Federal Reserve will cut rates by 25 basis points at both its September and December meetings. This will be followed by a more substantial reduction of 125 basis points in 2025 and 75 basis points in 2026. Over the next 25 months, Fitch projects a total of 250 basis points in rate cuts through ten separate reductions.
Historically, the median reduction from peak rates to the lowest point in previous Fed easing cycles has been 470 basis points, with a median duration of eight months. Fitch’s forecast indicates a more cautious pace of easing this time around.
Fitch attributes the Fed’s measured approach to the ongoing challenges with inflation. Despite a recent decline, the Consumer Price Index (CPI) remains above the Fed’s target of 2%. In August, US inflation fell to its lowest level since February 2021, with a year-on-year increase of 2.5%, slightly below the expected 2.6%. Core CPI, which excludes food and energy prices, rose by 0.3% for the month, aligning with forecasts but still indicating persistent inflationary pressures.
Fitch highlights that recent improvements in core inflation are largely due to falling automobile prices, a trend that may not be sustained. The prolonged difficulty in managing inflation and gaps in understanding its drivers have contributed to the Fed’s cautious stance.
The report also provides insights into monetary policies in other regions. In China, Fitch expects continued rate cuts, noting that the People’s Bank of China (PBOC) surprised markets with a reduction in the 1-year Medium-term Lending Facility (MLF) rate to 2.3% in July. The weakening of the US dollar and deflationary pressures in China are expected to lead to further rate cuts, with forecasts indicating a 0.5% inflation rate in 2024 and additional cuts in 2024 and 2025.
Conversely, the Bank of Japan (BOJ) is pursuing a more hawkish stance. Fitch notes that the BOJ raised rates more aggressively than anticipated in July, reflecting confidence in sustained reflation and a “virtuous wage-price cycle.” With core inflation above the BOJ’s target for 23 consecutive months and robust wage growth, Fitch forecasts the BOJ’s policy rate to reach 0.5% by the end of 2024, 0.75% in 2025, and potentially 1% by the end of 2026.
With input from Reuters.
