Federal Reserve Chairman Jerome Powell arrives to speak at a news conference following a Federal Open Market Committee meeting at the William McChesney Martin Jr. Federal Reserve Building on July 31, 2024 in Washington, DC.
Andrew Harnick | Getty Images
If the Fed has started setting the table for rate cuts, some parts of the market are eagerly awaiting dinner.
“What are they looking for? The bar has been set so high that it doesn’t really make sense,” Claudia Sahm, chief economist at New Century Advisors, told CNBC after the Fed’s meeting concluded on Wednesday. “The Fed needs to start this process gradually back to normal, which means gradually lowering interest rates.”
Sam is best known for formulating the Sahm rule, which uses changes in the inflation rate to measure when a recession is occurring, and he called on the central bank to begin easing monetary policy so as not to drag the economy into a recession. The rule states that when the three-month average of the unemployment rate is half a percentage point above its 12-month low, the economy is in a recession.
The unemployment rate of 4.1% is just a short distance from triggering the rule, and Sam said the Fed's insistence on keeping short-term interest rates at a 23-year high is putting the economy at risk.
“We don’t need a weak economy to get rid of inflation. We don’t have to be afraid of a good economy,” she said. “And if inflation is done, or if we’re on a glide path, that’s fine, and the Fed can start to step aside.”
Asked about the contributory rule during his post-meeting press conference, Fed Chair Jerome Powell called it a “statistical regularity” that doesn’t necessarily apply this time around as the jobs picture remains strong and the pace of wage gains slows.
“What it looks like is a normal labor market, job creation, decent wages that are rising at a solid rate but gradually falling. If it turns out to be… something more than that, we are well positioned to respond,” he said.
cautious approach
But markets are pricing in an aggressive rate cut starting in September with a quarter-point cut, the first since the early days of the Covid-19 crisis.
After that, markets are pricing in cuts in November and December, with about an 11% chance of a full percentage point cut in the federal funds rate by the end of the year, according to CME Group’s FedWatch gauge of 30-day federal funds futures.
Rather than start taking its foot off the brakes, the Fed announced Wednesday that it would keep its overnight lending rate in a range of 5.25% to 5.5%. The statement issued after the meeting noted progress on inflation but also stressed that policymakers on the interest-rate-setting Federal Open Market Committee need “greater confidence” that inflation is heading back toward 2% before they are ready to cut rates.
DoubleLine CEO Jeffrey Gundlach also believes the Fed is risking a recession by taking a hard line on interest rates.
“That’s exactly what I think because I’ve been playing this game for over 40 years, and it seems to happen every time,” Gundlach told CNBC’s Scott Wapner on “Closing Bell.” “Every other fundamental aspect of the employment data is not improving. It’s deteriorating. And once you start getting to that higher level where they have to start cutting rates, it’s going to be more than they think.”
In fact, he believes the Fed could end up cutting rates by 1.5 percentage points over the next year, a more aggressive pace than policymakers charted when they last updated their “dot plot” of individual forecasts.
Gundlach expects the CPI to fall below 3% soon, making real rates, or the spread with the federal funds rate, particularly high.
“If you have a real interest rate that's positive by one and a half percent, that means you have 150 basis points of room to cut rates without even thinking you're overdoing it. I think they should have cut rates today, frankly,” he said.
