The Federal Reserve on Wednesday cut its interest rate target by a half of a percentage point, the first time the central bank has trimmed rates in over four years.
After a two-day meeting of its monetary policy committee in Washington, D.C., the Fed announced it would move its rate target to range of 4.75% to 5.00%, down from 5.25% to 5.50%.
Many investors had bet that the Fed would implement a smaller rate cut — an unusual disconnect, as Fed decisions are typically telegraphed long in advance.
Of note, Fed Governor Michelle Bowman dissented from the decision, becoming the first governor to dissent since 2005. She had preferred the Fed cut rates by just a quarter of a percentage point.
The Fed’s so-called dot plot shows that most members of the Federal Open Market Committee expect at least one more interest rate cut this year at the committee’s next meetings in November and December. The median official predicts two more quarter-percentage-point revisions this year.
On Wednesday, officials released updated projections indicating they see inflation, as gauged by the personal consumption expenditures index, falling to 2.3% by the end of 2024. That is a healthier decline than the 2.6% predicted in June.
The officials also predicted that the unemployment rate would be 4.4% by the end of this year, notably up from the 4% they had previously predicted.
Looking ahead, in terms of gross domestic product growth, they predict modest 2% growth in 2024, down slightly from officials’ June outlook.
The rate cut comes after years of near-frantic efforts by the central bank to arrest inflation. Wednesday’s move signals that the Fed sees the inflation threat as over, and they believe the bigger threat is the possibility of an economic slowdown and even a recession.
Because inflation remained high in the first half of the year and even rose at some points, the timing for when the Fed might first cut interest rates has been consistently pushed back since the start of 2024. For a time, it appeared possible the central bank wouldn’t cut rates at all this year, although recent data showing inflation is falling have made that less likely.
The Fed’s goal is long-run 2% inflation, a rate it deems healthy for the economy and for consumers.
The most often-cited inflation gauge for the public is the consumer price index. CPI Inflation fell four-tenths of a percentage point to 2.5% for the year in August, the Bureau of Labor Statistics reported last week, marking five months of disinflation. CPI inflation is now the lowest it has been since February 2021, shortly after President Joe Biden was sworn in.
But the Fed uses another gauge, the personal consumption expenditures price index, to assess inflation. Inflation was at 2.5% in July, according to the most recent PCE report. Core PCE inflation, a measure of inflation that strips out volatile energy and food prices, remained at a 2.6% year-over-year rate.
The last time interest rates were cut, the U.S. was in crisis because of the pandemic. The stock market was in freefall, and the economy had fallen into a recession. The Fed slashed rates to near zero, holding them at that historically low level for two years until an explosion of inflation forced the central bank to begin hiking interest rates.
The interest rate cut is good news for Vice President Kamala Harris, who has been plagued by President Joe Biden’s low economic approval ratings and broad discontent with inflation and high interest rates.
The Fed’s interest rate target affects all aspects of life. The higher interest rates have driven up mortgage rates and have put purchasing a home out of reach for many voters. They have also made it more expensive to take out an auto loan or pay off credit card debt.
The relief, though, will only be marginal, given that it will take some time for the Fed to keep bringing its interest rate target down.
Former President Donald Trump is likely to hit the Fed for the decision. Trump suggested earlier this year that Fed Chairman Jerome Powell would seek to give Democrats an advantage through lower interest rates. “He’s not going to be able to do anything. But it looks to me like he’s trying to lower interest rates for the sake of maybe getting people elected,” Trump said on Fox Business.
The labor market proved remarkably resilient during the Fed’s period of historic tightening and had given the Fed insulation to keep interest rates high. Now, though, there have been signs that the labor market is meaningfully softening, which has raised alarm bells and put further pressure on the central bank to cut.
The economy added 142,000 jobs in August, reflecting a downward trend in job creation in recent months. The unemployment rate is now 4.2%, an increase from recent lows of 3.4%. In another sign of cooling, job openings plunged in July to their lowest level since January 2021, when Biden entered office.
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Despite the weakening jobs market, overall economic output — the main way that recessions are tracked — has remained strong and has even increased this year.
The Bureau of Economic Analysis recently that gross domestic product grew at a 3% annual rate in the second quarter. That is up from 1.4% growth in the first quarter of the year.