What the Fed's past rate cut pivots tell us about today
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Fed chair Jerome Powell signals a policy pivot on Jan. 4, 2019, in Atlanta. Photo: Jessica McGowan/Getty Images
Financial markets gyrating. The economy showing cracks. Wall Street talking heads accusing the Federal Reserve of being cluelessly behind the curve.
The big picture: These are hallmarks of moments when the Fed has undertaken a pivot toward rate cuts, and are very much in the air right now. Examining those past episodes sheds light on what could go right — or very, very wrong — as rate cuts loom.
- Three past dovish pivots from this century stand out for what followed — one good (2019), one bad (2001) and one ugly (2007).
Flashback: The dream scenario is what played out in 2019. In December 2018, the Fed signaled more interest rate increases were on the way in the ensuing year, and markets went haywire.
- In the final days of 2018 and the start of 2019, stocks and bond yields fell as markets started to see recession risk due to the Fed's over-tightening policy.
- Chair Jerome Powell, in a panel discussion on Jan. 4, 2019, assured the world that the Fed would be patient with rate hikes, tempering expectations of tighter money.
- Later that summer, the central bank cut interest rates three times, a "mid-cycle adjustment," as Powell called it, aimed at extending what was already the longest expansion on record.
- It seemingly worked, with the economy experiencing solid growth, low unemployment and low inflation until the pandemic hit the next year.
Yes, but: Things aren't always so rosy. In early 2001, with the dot-com bust accelerating and tremors in the economic data suggesting a recession, the Fed cut rates by 0.5 percentage point between regularly scheduled policy meetings.
- Chair Alan Greenspan said in the closed-door meeting, "[W]e're certainly not yet in a free fall. I say 'not yet' because a free fall doesn't look like a free fall until you really start falling."
- The action, the first of what would be 11 rate cuts that year, was not enough to prevent a mild recession in 2001 that was followed by a slow, jobless recovery.
- In effect, the economic downdraft from a stock market crash and pullback in business investment was so powerful that even the Fed's rapid rate cuts couldn't offset it.
Finally, there is an even gloomier example of what can follow a Fed pivot. In August 2007, global credit markets were freezing up due to losses on U.S. home mortgages. Chair Ben Bernanke signaled rate cuts were ahead at the Fed's Jackson Hole conference late that month, followed by a 0.5-point rate cut in September.
- It helped soothe things for a while, but the losses kept spreading, and by the end of 2007, the credit markets were again in crisis mode.
- Lower rates were not enough to offset massive disruption in the global financial system that constrained the flow of credit, making 2008 a year of severe recession.
The bottom line: Whether a Fed rate cut pivot is enough to avert a recession depends on whether the underlying economic situation is basically sound or if there are deep-seated imbalances the economy is working through that monetary policy can help offset but can't fix.
- The big question now — which we'll explore in the days and weeks to come — is which of those situations better describes 2024.
