One Lump Or Two?

With the financial markets already primed for a 25-basis-point cut at next week’s Federal Reserve monetary policy meeting, the talk has now shifted to the possibility that the Fed may go even further and reduce its benchmark federal funds rate by 50 basis points instead.

That speculation was fueled by New York Fed President John Williams, who exhorted an audience of the Central Bank Research Association in New York last week to “take swift action when faced with adverse economic conditions” and “keep interest rates lower for longer” when reducing rates.

“Don’t keep your powder dry—that is, move more quickly to add monetary stimulus than you otherwise might,” he added, which may have left some listeners wondering what year this was – 2008, when the Great Recession was just beginning, or 2019 when the economy is still growing. Either way, listeners on Wall Street were happy to hear it and immediately pushed stock prices higher.

The New York Fed subsequently walked back Williams’s comments, saying that he didn’t mean to suggest that the Fed was about to double-down on a rate increase next week, downplaying his comments as an “academic speech” and “not about potential policy actions at the upcoming FOMC meeting.”

But Fed Vice Chairman Richard Clarida swiftly echoed Williams’ comments, telling the Fox Business Network, “You don’t wait until the data turns decisively if you can afford to. If you need to [cut rates], you don’t need to wait until things get so bad to have a dramatic series of rate cuts.”

The only difference is that Williams described the economy as “pretty strong” – begging the question why the Fed feels it needs to lower rates at all, whether by 25 or 50 basis points – while Clarida implied that the economy is ready to hurtle over the cliff unless the Fed rides to the rescue.

Along comes Boston Fed president Eric Rosengren with a different take. In an interview with the Wall Street Journal the next day, Rosengren “offered little indication that he sees a pressing need for an interest-rate cut this month, pointing to economic data and developments that have improved since the Fed’s decision to hold rates steady last month.”

“By and large, the [economic] news we’ve gotten over the last month has been positive,” he said. “We should just look at what the data is telling us, and not presume … that the economy will be much weaker as we get into the second half of the year,” noting that the possible effects on the U.S. of weak economic growth in Europe and China and the tariff war are “extremely hard to predict at this stage.”

While it doesn’t appear that Rosengren – a voting member of the FOMC this year – represents the majority view on the Fed, it’s encouraging to know that at least some members may be somewhat skeptical that the economy is as weak as we’re supposed to believe, warranting drastic Fed action.

Indeed, if we look at the June retail sales report, which showed a much stronger than expected 0.4% increase over May – 0.7% when excluding auto and gasoline sales – and last month’s unexpectedly large 224,000 rise in nonfarm payrolls, the economy doesn’t seem to need much help at all.

But that doesn’t appear to be how the majority on the Fed sees it, claiming they must medicate the patient even before it’s sick.

Given all the groundwork that Powell, Clarida, Williams, et al, have laid over the past month or so, it seems pretty clear that the Fed will enact a quarter-point rate cut at next week’s meeting. A half-point cut seems not only a stretch or wishful thinking but could be downright dangerous, since it would imply that the economy is in a lot worse shape than any of us realize. How exactly the Fed would know that, however, is anyone’s guess, given that it’s been continually blindsided by unexpected economic reports in the past.

It would also be dangerous for a different reason, as it would needlessly pump up the value of already inflated risk assets, as Rosengren warned against. “Reducing interest rates at this stage of the financial cycle won’t be costless if it encourages a ‘risk-on’ behavior that actually makes an eventual pullback sometime in the future more costly,” he said in his Wall Street Journal interview.

Still, it will be interesting to see what the market’s reaction will be after next week’s monetary policy decision. Will stock prices drop if the Fed cuts rates by “only” 25 basis points? (Certainly, President Trump won’t be happy). Will 50 bps make the market happier, or just make it even more nervous? Next week’s meeting announcement will be the most momentous in a while.

Visit back to read my next article!

George Yacik Contributor - Fed & Interest Rates

Disclosure: This article is the opinion of the contributor themselves. The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. This contributor is not receiving compensation (other than from for their opinion.