WASHINGTON — After Federal Reserve officials meet this week, a statement they will make may indicate that they have seen significance in progress on inflation this year – a prelude to possible interest rate cuts.
Yet it is difficult to say, because the officials themselves may not know for sure until they start their meeting. That’s because the latest snapshot of U.S. inflation will be released Wednesday morning, just before the Fed begins the second day of its policy talks.
A major problem is a sentence that the Fed has added his statement after the last meeting on May 1: it said “no further progress has been made” in bringing inflation back to the central bank’s 2% target.
Inflation had reached uncomfortably high levels in the first three months of this year, dampening hopes that inflation would continue to cool steadily as it did in the second half of last year.
But in April Consumer inflation has started to slow again, even if only a little. And if the May inflation report due Wednesday shows further signs of improvement, the Fed may drop that sentence from its statement. It would be an encouraging sign that policymakers could cut their benchmark interest rates within a few months. Interest rate cuts would ultimately lead to lower costs for mortgages, car loans and other forms of consumer and business loans.
But whether or not the ruling is withdrawn or changed, most economists believe there will be no interest rate cuts until September at the earliest. Chairman Jerome Powell is likely to underline at a news conference on Wednesday that policymakers will need to see several more months of low inflation rates before they would consider cutting their key interest rates.
A Fed rate cut could provide a modest boost to the economy, which would be welcomed by President Joe Biden’s re-election campaign, which has struggled to offset many voters’ dismay over the inflation spike in recent years. Although consumer inflation has slowed dramatically from its peak of 9.1% in mid-2022, it was still 3.4% in April, well above the Fed’s target.
The Fed would cut rates faster if growth were to stagnate and companies were to lay off many workers. But on Friday the government arrived reported robust job growth in May, with employers adding jobs across a range of sectors. The report prompted Wall Street traders to cut their forecast for Fed rate cuts this year from two to just one.
The Fed will leave its key interest rate unchanged on Wednesday at about 5.3%, a 23-year high, where it has been since July. Policymakers will also release updated economic projections, which are expected to show they foresee one or two interest rate cuts by the end of the year, compared to a forecast of three in March.
At his news conference, Powell is likely to reiterate that Fed officials need to be more confident that inflation will return to 2% before considering rate cuts, and that this will likely take more time.
“The Fed’s story will be very similar to what we’ve heard: ‘We’ve made progress in reducing inflation; we are in no rush to cut rates,” said Nathan Sheets, a former senior economist at the Fed and global chief economist at Citi.
Another issue Powell could focus on is whether the economy starts to weaken. In the first three months of the year, growth slowed sharply to just 1.3% annually, compared with 3.4% in the final quarter of last year.
The number of vacancies fell to the lowest level in three years in April, although the number remains high by historical standards. And consumers even cut back on spending in April, after adjusting for inflation, a sign that high prices and high interest rates are putting pressure on U.S. finances.
While solid job growth in May allayed some of these concerns, the unemployment rate rose for the second month in a row to 4%.
Such tentative signs of weakness could help clarify an ongoing debate among Fed officials: To what extent do higher interest rates hurt the economy? Policymakers have raised borrowing costs over the past two years with the aim of slowing spending enough to curb inflation.
Given last year’s strong growth and significant job growth earlier this year, some officials had begun to question whether their rates were high enough. The minutes of the Fed’s most recent meeting show that some officials have even expressed openness to further rate hikes.
A cooling economy “would reinforce their narrative that (interest rate) policy is restrictive,” said Donald Kohn, a former vice chairman of the Fed’s Board of Governors and a senior fellow at the Brookings Institution. I had doubts – including myself – for a while while everything came in so strongly.
Last month, John Williams, president of the Fed’s New York branch, said there was “ample evidence” that higher interest rates were keeping the economy in check. Home sales have plummeted. And spending on appliances, furniture and other expensive goods has declined.
The Fed’s cautious approach to rate cuts contrasts with that of some of its foreign counterparts. The European Central Bank announced this on Thursday the first rate reduction in five years, citing the progress it has made in slowing price increases. Inflation has fallen from a peak of 10.6% to 2.6% in the twenty countries that use the euro.
The Canadian central bank also cut interest rates last week. The Bank of England will meet on Thursday, although it is not clear whether there will be cuts. The Bank of Japan is the only major central bank to have raised interest rates, which it did in response to a rise in prices after decades of deflation.
