Feb 20, 2020 - Economy & Business

The Fed may be setting the table for 2020 rate cuts

Illustration of Fed Chair Jerome Powell with an arrow around him
Illustration: Sarah Grillo/Axios

The Fed looks to be laying the groundwork to lower U.S. interest rates this year, just as they did in April 2019 before cutting rates in July, September and October.

Why it matters: A Fed rate cut makes taking on debt more attractive for U.S. consumers and businesses, helping to juice the economy, but also puts the central bank in a weaker position to fight off a potential recession.

What's happening: In the minutes of its latest policy meeting, the Fed highlighted its desire for higher inflation, Bob Miller, BlackRock’s head of Americas fundamental fixed income, points out in a note. "The FOMC changed its statement at the January meeting to make that fact clear, and we see that sentiment confirmed in [Wednesday’s] meeting minutes."

  • San Francisco Fed president Mary Daly asserted in a speech last week that “the new economic environment requires that monetary policymakers push inflation up to target.”

Further, "If you look at the uncertainty about concerns surrounding coronavirus and the fact that they added the phrase 'for a time' to describe how long current policy will remain appropriate, those read to me as a signal that a rate cut may be coming," Thomas Simons, money market economist at Jefferies, tells Axios.

What it means: The Fed is refocusing attention away from solid U.S. economic data to fears about coronavirus and underwhelming inflation, much as they did with the U.S.-China trade war and global growth concerns last year.

By the numbers: Following the release of the minutes Wednesday, Fed fund futures prices showed traders saw a 93% chance of at least one rate cut by year-end and a 65% likelihood of two, according to CME Group's FedWatch tool.

  • That's up from an 84% likelihood of a cut the previous day and 60% one month ago.

Yes, but: Gennadiy Goldberg, senior U.S. rates strategist at TD Securities, argues the Fed is simply establishing its new view on inflation. He says assuming a rate cut is coming is a "misreading of the minutes."

Between the lines: Marvin Loh, senior global macro strategist at State Street, also points to the now-inverted U.S. Treasury yield curve, where 3-month Treasury bills hold higher yields (1.58%) than 10-year notes (1.56%).

  • "There are a number of things lining up to bring them back to the rate-cut table," Loh tells Axios.
  • He's expecting a rate cut by this summer.
Data: FactSet; Chart: Axios Visuals
Data: FactSet; Chart: Axios Visuals

The Fed has another reason to consider cutting interest rates — the strengthening U.S. dollar.

The big picture: The dollar rose to its highest level in almost three years against a basket of major global currencies on Wednesday.

  • In February, the dollar index has gained a little more than 2%, hitting its highest since April 2017.
  • It has strengthened against both currencies that typically appreciate when risk assets like stocks rise and against those that typically see buying when risk appetite falls.

When the dollar was last near this level, it was a major concern for U.S. multinational companies, highlighted as a primary factor hurting overseas returns.

  • It was also seized upon by President Trump as a reason to criticize the Fed's policy decisions.

What we're hearing: "With the coronavirus, a new tough situation presents itself that could lead to Fed intervention and thus affect the buck in a negative way," Juan Perez, senior FX trader and strategist at Tempus, tells Axios.

  • "But the ongoing contractions elsewhere along with the disease crisis are keeping the resilience of the dollar intact."

Interestingly, there has also been a 70% correlation between Trump's popularity and the U.S. dollar since his election, according to calculations from TD Securities.

Go deeper: Federal Reserve leaves interest rates on hold

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