As the Federal Reserve prepares for a widely anticipated rate cut this week, investors are also focusing on whether the central bank will recalibrate its projections for 2025. While a final cut in 2024 seems imminent, the larger question revolves around whether the Fed will scale back its earlier forecast of aggressive rate reductions for the upcoming year.
The central point of focus will be the “dot plot,” a quarterly updated chart reflecting the expectations of Fed officials for the federal funds rate. During September’s policy meeting, the dot plot indicated that the Fed was aiming for two more cuts in 2024 and four additional reductions in 2025.
However, these projections are now being called into question, following a series of inflationary data points that have remained above the Fed’s target and cautious remarks from key Fed officials. Furthermore, the impact of potential fiscal policy changes, particularly those tied to a new administration, could complicate the Fed’s decision-making.
Some experts, including former Cleveland Fed President Loretta Mester, suggest that the initial forecast for four cuts in 2025 is overly optimistic and could be revised. Mester noted that a slowdown in the rate reduction cycle is likely, with two to three cuts appearing more plausible.
On the other hand, economists like Luke Tilley, Chief Economist at Wilmington Trust, believe the Fed’s broader strategy remains intact. Tilley points to the fact that inflation is still expected to decrease and that the current rate levels are still considered restrictive. “The Fed’s overall outlook is consistent with their aim of reducing inflation,” Tilley remarked, anticipating that the dot plot will maintain the forecast of four rate reductions in 2025.
One factor driving the Fed’s potential reassessment is the latest economic data. Contrary to expectations, the job market has shown resilience, with no clear signs of weakness despite concerns over potential recessions. Job growth has continued at a steady pace, particularly in private sector hiring. Meanwhile, inflation remains persistently elevated, with the November Consumer Price Index (CPI) showing a year-over-year increase of 2.7%, up slightly from October’s 2.6%.
Core inflation, which excludes volatile food and energy prices, rose by 3.3% in November, marking the fourth consecutive month of stagnation. Wholesale prices also exceeded expectations in November, signaling that inflationary pressures are far from abating.
In light of this, traders are placing their bets on a rate cut this week, pushing the odds above 95%. Despite the persistent inflation readings, many analysts, including Tilley, expect the Fed to maintain its 2025 rate reduction forecast at 3.25%-3.5%.
Fed Chair Jerome Powell has left the door open for a more gradual approach to rate cuts, emphasizing that the central bank can afford to proceed cautiously due to stronger-than-expected economic conditions. In early December, Powell noted that the economy’s resilience provided the Fed with more room to adjust its course as necessary.
Two key developments late in 2024 have influenced the Fed’s outlook: first, the labor market continues to defy expectations of a slowdown, and second, inflation has proven stickier than many analysts had anticipated. While the Fed is expected to maintain its rate-cutting trajectory in the short term, Powell and other officials will likely take a more measured stance when projecting further cuts into 2025.
The decision-making process will also be influenced by external factors, particularly potential changes in fiscal policy. Richmond Fed President Tom Barkin has expressed optimism about inflation continuing to decline next year, though he acknowledges that recent data may alter the Fed’s stance.
Chicago Fed President Austan Goolsbee emphasized the broader context, noting the significant drop in inflation since its peak in 2022. He expressed confidence that inflation will ultimately reach the Fed’s 2% target but acknowledged the uncertainties surrounding the broader economic environment.
Despite these varying opinions, the consensus remains that a rate cut this week is highly probable, but the trajectory for 2025 remains up in the air. With inflation showing signs of stubborn persistence and the labor market remaining resilient, the Fed faces a delicate balancing act in its policy decisions moving forward.
Many experts, including Wilmer Stith, Bond Portfolio Manager at Wilmington Trust, expect Powell to reaffirm the Fed’s commitment to reducing inflation, with a focus on shelter prices and other critical components of CPI. For now, a 25 basis point cut seems like a certainty, but the outlook for 2025 will likely remain fluid until more economic data is available.
In conclusion, while a rate cut this week appears all but guaranteed, the Fed’s 2025 forecast for further reductions is far from certain, especially as inflationary pressures persist and job growth remains strong. The central bank’s path forward will depend on how these factors evolve in the coming months, leaving room for potential adjustments to its strategy in 2025.
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