FED TO LOWER RATES AHEAD     9/1/24

To understand the Fed interest rate policy, it helps to envision a seesaw. On one end are the interest rates, and on the other are economic growth, employment, and inflation. Economic growth, jobs, and inflation go up when interest rates drop and decrease when rates rise.

The COVID pandemic caused a devastating blow to the economy. The fear of infections and possibly death loomed with every social interaction. Therefore, The Centers for Disease Control encouraged vast sectors of the economy to shut down to minimize personal contact. As the economic engine stopped, output and worker incomes plummeted.

It took trillions of federal stimulus dollars to avoid a depression. The stimulus dollars came from excessive borrowing by the Treasury Department and deficit spending by the government. Those policies drove interest rates to near-zero levels. However, economic growth and employment rose, and throughout the pandemic and beyond, America remained the world’s leading economy.

But soon, the fundamental law of economics took hold - i.e., you cannot have your cake and eat it, too. So, inflation increased alongside growth and employment, eventually reaching levels not seen in a generation. The FED repeatedly slammed on the growth brakes to slow inflation by hiking up interest rates. Eventually, inflation cooled, but so did economic growth and employment, bringing us to where we are today.

The FED must lower rates to restore growth and rejuvenate the job market. Riding the seesaw is an endless balancing act. Historically, the FED has mostly gotten it wrong. This time around, they have mostly gotten it right. The biggest dilemma is cutting 25 or 50 basis points off the current rate. I’m betting 25 points because their actions have not tamed inflation long enough to warrant more. Plus, the FED still has several months to make more appropriate adjustments this year. Remember, if it gets this wrong, “there is no free lunch.”
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