What did the Fed just do? Why? What comes next?
Last week, the Federal Open Market Committee, the monetary policymaking body of the US Federal Reserve (Fed), met and announced it was lowering the Federal Funds rate by 25 bps (the first interest
rate cut in more than 10 years) to a range of 2.0% to 2.25% and ending the runoff of its $3.8 trillion asset portfolio. Before we examine why the Fed took these two very important steps to support the US economy, a bit of background. Our central bank, the Fed, was created in 1913 and has two primary jobs: price stability and maximum employment. While the Fed has a lot of tools at its disposal to accomplish both goals, the most powerful is the Fed Funds Rate, or the rate at which banks lend money to each other. Set the rate too high, and credit can become too expensive, pushing the economy into recession; set the rate too low, and the cost of credit could become too cheap, stoking inflation and asset bubbles. Getting it just right isn’t easy.
Many investors thought it was a mistake for the Fed to cut rates, as the US economy is growing 2%+ and our unemployment rate is near a 50-year low. Those who wanted the Fed to cut – and keep cutting – cite muted inflation, weakening manufacturing, and other central banks lowering rates as justifying a more
accommodative posture by the Fed.
We believe the Fed made the right call in cutting rates and ending its balance sheet reduction program, particularly as inflation is contained and growth outside the US is slowing, likely as a result of uncertainty driven by the ongoing US/China trade dust-up. We also think the Fed will cut one to two more times this year and would point out that on more than one occasion the Fed has eased while our economy was still clearly on firm footing, and doing so at the time both lengthened the economic expansion and was supportive of risk assets. The big caveat to our Fed call is US/China trade – solve for it, and the Fed can likely take a step back; inflame tensions further, and the Fed will likely have to be more aggressive on the interest rate front. It could be a bumpy ride into year-end, but we remain optimistic about the economy and markets.
The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Brinker Capital, Inc., a Registered Investment Advisor.
Tagged: Tim Holland, market perspective, weekly wire, Federal Reserve, Fed Fund Rates, US/China trade