Central banks were active this week, as both the Federal Reserve (Fed) and Bank of England (BoE) held their final meetings of the year, setting the stage for what is sure to be a very interesting 2025.
The Fed met on Wednesday and cut interest rates by 0.25% for the third time this year, bringing rates between 4.25% and 4.5%. This may be the last cut for some time however, with Chairman Jerome Powell signalling the pace of rate cuts may slow in 2025. In September, the Fed had forecasted four rate cuts during 2025, but this week revised the prediction down to two reductions, as inflation is still above the Fed’s 2% target. As such, markets deemed this latest reduction as ‘hawkish’, meaning the Fed is taking a more cautious rate-cutting approach.
“Inflation has eased significantly over the past two years but remains somewhat elevated relative to our 2% longer-run goal,” Powell said in a statement.1 The Fed implied that more work needs to be done to bring inflation closer to their 2% target before they can consider cutting again. Recent data showing inflation trending higher, along with strong retail sales, prompted the Fed to adjust the anticipated number of rate cuts for next year down to two. Markets had been pricing in at least three for 2025. However, this week’s rate cut was considered a close call, as at least one committee member voted not to lower rates.
Fixed income markets had been pricing in a more gradual rate-cutting regime in the US next year, but after the Fed’s announcement that the central bank might not cut rates for a while, it spurred a sell-off in both equities and bonds, as markets adjusted to the longer-term implications.
This latest revelation that rates are not likely to come down as quickly as expected, comes just as President-elect Donald Trump - who promised to lower rates repeatedly while on the campaign trail - is about to re-enter the White House. Powell said it was too early to assess how Trump’s policies, namely tariffs and tax cuts, would impact inflation. However, some members seem to believe that the Republican agenda is going to be inflationary.
Analysis by the Peterson Institute of International Economics evaluated some of Trump’s key proposals, including deporting millions of unauthorised immigrants, placing 10% tariffs on all imports and 60% tariffs on China. The report suggests that if these plans do come to fruition, by 2028 the costs of goods and services could be much higher than current forecasts, potentially sparking another round of inflationary shocks.2
Meanwhile here in the UK, the BoE decided to hold interest rates at 4.75%, just one day after inflation rose to 2.6% in November, up from 2.3% in the previous month, though their communication was considered more ‘dovish’, meaning the BoE is focused on economic growth and employment.
Governor Andrew Bailey outlined how the bank’s own future rate-cutting regime would likely be tempered next year. “A gradual approach to removing monetary policy restraint remained appropriate,” he said in the statement.3 However, given the committee voted 6-to-3 in favour of a cut, it seems they are likely to cut again in their next meeting in February 2025.
In their statement, the Monetary Policy Committee also discussed risks to global growth and inflation stemming from geopolitical tensions and uncertainty in trade policy. The committee noted that Trump’s proposed tariffs could “influence future global trade if applied, and as a result, have some direct and indirect impacts on the UK economy”, although it implied the effect of these policies will depend on what is implemented, the timing and the policy response from other countries.4 The UK economy contracted in October for the second month in a row, and there is no UK growth forecast for the fourth quarter.5 While recent inflation and wage data may have prompted the BoE to hold rates, their focus on economic activity and the labour market - both showing signs of weakness - may well result in a series of cuts next year.
It seems hard to imagine that late last year, markets were forecasting as many as six rate cuts in the US. The interest rate cutting regime eventually began, albeit much later than many had forecasted. Since the summer, the BoE has cut interest rates by 0.50%, while the Fed and European Central Bank (ECB) each lowered rates by a full 1%. It appears central banks are preparing markets for the very real possibility that inflation will remain slightly above their ideal targets, which could keep interest rates above their pre-pandemic levels. Whilst central banks take a cautious approach to ensure long-term economic stability, growth, and a more resilient economy, they nevertheless face a challenging task if price pressures remain sticky.
As we pause The Brief until the new year, I would like to take this opportunity to wish you all a very Merry Christmas and a very prosperous 2025!
[1] Federal Reserve: https://www.federalreserve.gov/mediacenter/files/FOMCpresconf20241218.pdf
[2] Peterson Institute of International Economics: https://www.piie.com/blogs/realtime-economics/2024/how-much-would-trumps-plans-deportations-tariffs-and-fed-damage-us
[3] Bank of England: https://www.bankofengland.co.uk/monetary-policy-summary-and-minutes/2024/december-2024
[4] Bank of England: https://www.bankofengland.co.uk/monetary-policy-summary-and-minutes/2024/december-2024
[5] Bank of England: https://www.bankofengland.co.uk/monetary-policy-report/2024/november-2024
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