US Fed in Tough Spot as Market Clamors for Rate Cuts

The US Federal Reserve kept interest rates steady at its June meeting; it emphasized its data-driven approach to policy decisions but noted it believes the case for lower interest rates to be strengthening. Franklin Templeton Fixed Income CIO Sonal Desai offers her take on the meeting, and why the Fed might actually be exacerbating market volatility ahead.

Boxed in by financial markets pricing in 75 basis points (bps) of interest-rate cuts this year, Federal Reserve (Fed) Chairman Jerome Powell took another dovish twist today at the June Federal Open Market Committee Meeting—but in a way I believe will further increase uncertainty on the Fed’s strategy and therefore will likely increase market volatility.

In his post-meeting comments, Powell stressed increased uncertainty related to global trade tensions and noted that risk sentiment in financial markets has deteriorated. The latter assertion stands at sharp odds with equity markets holding at record highs, something that Powell seemed to ignore completely.

And perhaps in defense of future rate cuts, Powell emphasized that Fed policymakers felt it was important to “sustain the expansion” for the benefit of US consumers across socioeconomic groups. It is unclear to me, however, to what extent Fed rate cuts would sustain the economic expansion as opposed to sustaining a continued rally in financial markets, and particularly risk assets.

In the Q&A with the media after the meeting ended, Powell said that the shift in rhetoric in today’s statement had been driven by data and events that emerged in the last couple of weeks, and noted that new data and information would of course become available between now and the next Fed policy meeting. But if the Fed’s language is going to shift with every new batch of data, this seems to guarantee more swings like we have seen since late last year—causing more market volatility. It also contradicts Powell’s claim that the Fed wants to react to clear trend change, not to individual data points and shifts in sentiment.