On the 18th, the Federal Reserve (Fed) implemented a 'big cut,' reducing the benchmark interest rate by 0.50 percentage points to 4.75-5.00%. This move is seen as a preemptive measure due to concerns about the potential for a sharp downturn in the job market, even though the U.S. economy does not currently appear to be on the brink of recession. This is the first rate cut by the Fed in over four years since the pandemic. With this, it is being assessed that the aggressive tightening cycle by major economies that began in 2022 has effectively come to an end. There is widespread anticipation that the Fed will lower rates further, possibly bringing the benchmark rate down to the 4% range by December. As a result, the world is keenly watching the impact this will have on the monetary policies of major countries and global asset markets.

The Fed raised rates sharply starting in March 2022 to counter inflation, which surged due to pandemic-related stimulus measures and supply chain disruptions. This increased the rate to its highest level in 22 years, reaching 5.25-5.50%. It maintained this rate until now. However, with the U.S. consumer price index (CPI) slowing to 2.5% in August, and major central banks like the European Central Bank (ECB) and the Bank of England (BOE) starting their rate cut cycles, the Fed hinted earlier this month at the beginning of rate cuts.

On August 23, Fed Chairman Jerome Powell declared at the Jackson Hole meeting, "The time for policy adjustments (rate cuts) has come," effectively signaling the end of the inflation fight.

There Was a Reason to Move Quickly
There was little debate that the Fed would initiate a rate cut at this meeting. However, there was considerable disagreement among experts about the size of the initial cut and the pace of future cuts. The confusion stemmed from the fact that while the U.S. economy is slowing, it hasn’t decelerated quickly enough to justify rapid rate cuts by the Fed.

On the other hand, there was also strong support for the Fed to move swiftly with rate cuts. Given the possibility of a sudden cooling in the labor market, the argument was that the Fed needed to quickly return rates to more normal levels to avoid being criticized for acting too late.

Former New York Federal Reserve President William Dudley urged the Fed to lower rates early, writing in a July op-ed that "it may already be too late to prevent a recession through rate cuts." He suggested that a large rate cut in September was inevitable. The logic was that since rates were still high, a large cut now would not cause regret. However, if only a small cut was made, and the labor market deteriorated rapidly, the Fed would be left regretting its decision.

"Uncertainty in Economic Outlook" Reflected
It is known that there was significant division within the Fed regarding the 'big cut,' but ultimately the FOMC members sided with the argument for proactive action.

This perspective is reflected in the FOMC statement. The Fed acknowledged that “recent data shows that economic activity in the U.S. continues to expand at a robust pace," and while “the unemployment rate has risen, it remains at a low level.” In this way, the Fed recognized that the U.S. economy is not in bad shape. However, the Fed also emphasized that “the economic outlook is uncertain, and the FOMC is attentive to risks on both sides of its dual mandate.” This suggests that concerns about the rapid cooling of the labor market were a key factor in the decision for a big cut.

Outlook
With the Fed's pivot, the tightening policies of major countries are effectively coming to an end. Switzerland was the first developed country to open the door to rate cuts in March, followed by the ECB and Canada in June, both making their first rate cuts in several years. In August, the BOE also shifted its monetary policy for the first time in four years since the pandemic. It is widely expected that the Fed’s rate cut movement, which began this month, will continue for some time. Large investment banks such as Goldman Sachs, Bank of America (BofA), and Barclays predict that the Fed will make additional rate cuts in November and December, bringing the U.S. benchmark rate to around 4.75% (upper limit) by the end of the year. JPMorgan and Citi are even forecasting rates as low as 4.25%.

The Fed's rate cuts are expected to immediately become a significant factor in the monetary policy decisions of other major countries. The BOE and Bank of Japan (BOJ) are scheduled to decide on their respective benchmark rates on the 19th and 20th. Emerging market central banks are expected to be even more influenced by these decisions.

By: Hong-Yong Park

<Hongyong Park>