The attached note looks at the Fed cutting interest rates for the first time since December 2008. The key points are as follows:
- The US Federal Reserve has cut the Fed Funds rate by 0.25% citing uncertainties around the outlook for growth and inflation. The key uncertainties relate to trade and weaker global growth along with ongoing low inflation.
- We expect another one or two 0.25% cuts with the next in September but with US recession unlikely this rate-cutting cycle is likely to be limited. Fed and global monetary easing generally should help boost global growth into next year.
- Beyond potential short-term volatility, falling US rates are positive for shares on a 6 to 12-month view.
- The main risks are threats posed by US trade wars and tensions with Iran.
- The RBA was already on track to cut rates to 0.5% in our view and the Fed’s move does nothing to change that.
As widely anticipated, the US Federal Reserve has cut its key Fed Funds cash rate by 0.25% to a range of 2-2.25%. This is the Fed’s first rate cut since December 2008 and follows nine 0.25% rate hikes between December 2015 and December last year. The Fed also announced that quantitative tightening (ie the process of reversing its quantitative easing program by letting bonds on its balance sheet mature) will end immediately, which is about two months earlier than previously flagged. The Fed’s post-meeting statement left the door open to more cuts although Fed Chair Powell’s press conference confused things a bit (again!) by saying it’s a “mid-cycle adjustment” and “not the beginning of a long series of cuts” but it may not be “just one”.
Taking out some insurance
With underlying US growth still solid and the jobs market tight this should be seen as the Fed taking out some insurance given various threats to the growth outlook including from the US/China trade war, tensions with Iran and slower global growth generally and a greater willingness by the Fed to take risks with higher inflation as opposed to deflation.
So it’s a bit like the easings of 1987 after the share market crash and in 1998 during the LTCM hedge fund crisis when Russia defaulted leading LTCM to go bust, threatening the US financial system.
The pattern of the past 50 years or so is for the Fed to cut rates after some form of crisis threatens the economic outlook. See the next chart. In 2001 it was the tech wreck and in 2007 it was the sub-prime mortgage crisis. This time around there is nothing on that scale although it may be argued that the trade wars are providing the biggest single threat.
This year’s fall in core private final consumption inflation back below the Fed’s 2% target provided the Fed with the scope to move. Continue Reading Here