After Jackson Hole: A little clarity, but a lot of uncertainty remains
|While the date of the Fed's first rate cut is now foreseeable (it will be at the FOMC on 17-18 September), everything else remains uncertain: the size of the cut, as well as the overall extent of the easing cycle and the timing of the cuts. Developments on the US labour market are key in this calibration. In terms of inflation, significant progress has been made regarding the return to price stability on both sides of the Atlantic, but the battle is far from won. This calls for caution in the monetary easing that is beginning. We expect the Fed to open this cycle with a cut of 25 bps rather than a cut of 50 bps – the orderly slowdown in the labour market working in favour of this – and to make a total of eight rate cuts by the end of 2025 (five consecutive cuts, then one per quarter), bringing the Fed Funds range to 3.25-3.50%. We anticipate that the Fed will succeed in piloting the US economy's soft landing. The ECB and the BoE started their monetary easing a little earlier than the Fed (June for the ECB, August for the BoE), and they would continue at a very gradual pace of -25 bps every quarter (until Q3 2025 for the ECB, bringing the deposit rate to 2.50%; until the end of 2025 for the BoE, the bank rate ending at 3.75%), each totalling six rate cuts.
At least one thing is clear after Jackson Hole and Jerome Powell's opening remarks on 23 August: the US Federal Reserve considers "the time has come for policy to adjust", i.e., for policy rates to be lowered. Furthermore, he was very explicit about the reasons behind this announcement and the reversal of the balance of the risks between the two components of the Fed's mandate (price stability and full employment): inflation is no longer the primary concern, it is the situation on the labour market that now matters.
Powell was also clear in his presentation of the reasons behind the surge in inflation ("an extraordinary collision between overheated and temporarily distorted demand and constrained supply" and then its decline (the unwinding of these distortions and the monetary policy response), congratulating himself on the important role of monetary policy in this reversal. Philip Lane for the ECB and Andrew Bailey for the BoE, on the other hand, gave monetary policy only one role among others, while highlighting, as a minimum and rightly so, the importance of monetary tightening on anchoring inflation expectations.
While the date of the Fed's first rate cut is now foreseeable (it will be at the FOMC on 17-18 September), the question of the size of the cut remains open, as well as, quite naturally, the overall extent of the easing cycle and the timing of the cuts. Just after stating that it was time for the Fed to adjust its policy, that "the direction of travel is clear", Powell did not tie his hands any further and stated that "the timing and pace of rate cuts will depend on incoming data, the evolving outlook, and the balance of risks".
Developments on the US labour market are key for the monetary policy that will be adopted. Today, the exact nature of the current slowdown is still difficult to determine. Is this merely and essentially a normalisation of post-Covid-19 pressures? If so, a natural halt to the slowdown can be expected in a not-too-distant future. Or is this slowdown mainly due to monetary tightening? If so, a further deterioration is to be expected until a possible recession occurs, unless the Fed succeeds in a soft landing thanks to monetary policy easing.
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