In a broadly expected move, Federal Reserve officials left interest rates unchanged on Wednesday, but with inflation fading, their predictions for next year were optimistic. The suggestion of three rate cuts on the menu in 2024 left Wall Street salivating, with the Dow closing at a record high.
“Inflation has eased from its highs, and this has come without a significant increase in unemployment. That’s very good news,” Fed Chair Jerome Powell told reporters at a press conference after the December Federal Open Market Committee meeting. “We are likely at or near the peak rate for this cycle,” he added.
The Fed’s Summary of Economic Projections (SEP), released Wednesday, shows three rate cuts in 2024. Fed officials expect to drop the Fed funds rate from around 5.3% today to 4.6% in 2024 and 3.6% in 2025. It’s a big shift from their September projections of one more rate hike this year followed by two cuts in 2024, which would have left the Fed funds rate at 5.1%.
While Federal Reserve Chair Jerome Powell cautioned that the inflation fight was not yet over, Wall Street took the news as a clear sign the era of rising borrowing costs is closing. And stocks surged in response. The S&P 500 and the tech-heavy Nasdaq Composite both ended the day up roughly 1.4%; the Dow closed at a record 37,090.
“The Fed delivered a long-awaited holiday present today, not only in holding rates steady, but also in forecasting rate cuts in 2024,” said Greg Bassuk, CEO of AXS Investments.
What’s more, Powell even said Wednesday that rate cuts could begin before inflation declines all the way to the Fed’s 2% target in an unmistakably dovish signal for investors. “You’d want to be reducing restriction on the economy way before 2% … so you don’t overshoot,” Powell told reporters, referencing the potential for elevated interest rates to spark a recession.
It was “the most dovish Fed presser we have seen in quite some time,” said Alex McGrath, chief investment officer for NorthEnd Private Wealth.
And David Russell, global head of market strategy at TradeStation, noted that there was “a big change in the language that indicates policymakers see less need to aggressively tighten.”
While “traders expected caution coming into this release,” according to Russell, they got a dovish Fed that now “acknowledges inflation is fading.”
After hitting 9.1% in June of 2022, year-over-year inflation fell to just 3.1% in November. And central bank officials now predict that it will drop to 2.4% next year and 2.1% in 2025, as measured by the personal consumption expenditures price index, the Fed’s preferred inflation gauge.
‘No one is declaring victory’—except investors
While Powell lauded the progress made in taming inflation over the past two years, he also emphasized ongoing “uncertainty” in the economic outlook, which could change central bank officials’ interest rate and inflation forecasts moving forward. “No one is declaring victory” over inflation yet, the Fed chair said, arguing that “further progress” still needs to be made to control consumer price increases.
Still, economists saw his comments as very optimistic overall. Thomas Simons, senior economist at Jefferies, said that the remarks were “more dovish than his typical tone.” And Mercatus Center macroeconomist Patrick Horan noted that the Fed is “essentially forecasting a soft landing” with “continued disinflation and low unemployment next year.”
To Horan’s point, Fed officials are projecting GDP growth of 1.4%, an unemployment rate of just 4.1%, and inflation of 2.4% in 2024. That would be right in line with the soft landing that calls for low growth, low inflation, and a stable labor market.
For investors, the news means “the Santa Claus rally may continue,” said Gina Bolvin, president of Bolvin Wealth Management Group. While for pessimistic forecasters who have predicted a recession and plunging equities, the Fed’s latest outlook will be a shock.
“The bears are running for cover and may have to go into hibernation, given the robust GDP growth, strong consumer spending, low unemployment, and a Fed that is talking about cuts, let alone staying on hold,” according to Chris Zaccarelli, chief investment officer for Independent Advisor Alliance.