Dive Brief:
- Retail sales unexpectedly rose 0.1% last month, Commerce Department data showed Tuesday, highlighting robust consumer spending as Federal Reserve policymakers mulled whether to cut the main interest rate by a quarter or half percentage point.
- Most of the report’s 13 categories fell, including sales of clothing, gasoline, furniture and electronics, the Commerce Department said. Yet e-commerce sales gained 1.4% while personal care and building materials and garden suppliers also increased.
- “This is a decent report, which FOMC [Federal Open Market Committee] participants likely will interpret as an additional reason to opt for a 25pb [0.25 percentage point] easing tomorrow,” Pantheon Macroeconomics Chief U.S. Economist Samuel Tombs said in a note to clients.
Dive Insight:
Even with the brighter-than-forecast retail sales data, traders in interest rate futures increased odds that the Fed on Wednesday will cut the benchmark interest rate by 0.5 percentage points rather than 0.25 percentage points, according to the CME FedWatch Tool.
Traders on Tuesday saw a 63% percent probability that the Fed will cut the main rate by a half point compared with a 62% probability on Monday. They see 37% odds of a quarter-point reduction from the current range between 5.25% and 5.5%.
Predictions on the size of policy easing at the end of a two-day Fed meeting on Wednesday have divided economists and Wall Street analysts into two camps.
“Bottom line — the market is unusually uncertain about the September FOMC,” analysts with Bank of America Securities said Monday in a client note.
Moody’s Investors Service on Monday forecast a half point reduction, noting that “labor market data and underlying inflation measures have for some time met the Federal Open Market Committee’s criteria to begin rate cuts.
“Indeed, the rapidly cooling labor market suggests that the Fed is falling behind the maximum-employment side of its dual mandate,” Moody’s said, predicting reductions in the federal funds rate of 0.75 percentage point this year and 1.25 percentage points next year.
The unemployment rate rose to 4.2% last month from 3.4% in April 2023, as the workforce expanded and companies pulled back on hiring.
Meanwhile, inflation — in the face of the most aggressive Fed tightening in four decades — fell from a 9.1% annual rate in June 2022 to 2.5% in August.
“U.S. inflation data has printed slightly firm” in recent weeks,” Bank of America Securities analysts said in a client note, predicting a 0.25 percentage point trim on Wednesday and reductions totalling 2 percentage points by the end of 2025.
At a post-meeting press conference Wednesday, Fed Chair Jerome “Powell is likely to sound dovish and should highlight downside risks to the labor market and willingness to speed up the pace of rate cuts if needed,” Bank of America said.
“We expect Chair Powell to reiterate the Fed’s optimistic base case, while also acknowledging the growing downside risks to the labor market,” Bank of America said.
In a median estimate in June, central bank officials forecast that they will trim the federal funds rate to 5.1% by the end of this year and by 1 percentage point in both 2025 and 2026.
“Those outlooks are likely to be revised lower, especially for 2024 and 2025,” in the new projections by Fed officials to be released on Wednesday, Ed Yardeni, president of Yardeni Research, forecast Monday in a research note to clients. He expects policymakers Wednesday to trim the main rate by 0.25 percentage point.
The central bank has no need to rush into rate cuts, according to Scott Helfstein, head of Investment Strategy at Global X. He predicted a quarter point reduction while acknowledging that market expectations point to an easing twice that size.
“This is the first time in 30 years that the Fed is starting a rate cutting cycle without a financial or liquidity crisis,” he said Tuesday in an email. “The economic backdrop is good and they can take it slow.”
