September Fed Meeting: Divisions Over the Path of Policy

Weakness in the U.S. economy leaves it vulnerable to shocks. We think the Fed will respond with additional easing this year.

As expected, the Federal Open Market Committee (FOMC) reduced the fed funds range by another 25 basis points to 1.75%–2.00% at its September meeting, making this the second cut since the Federal Reserve stopped hiking interest rates last December. However, we see two bigger takeaways from Wednesday’s meeting. First, Fed officials remain divided on the appropriate near-term path for interest rates; and second, the Fed could announce a change to its current balance sheet policy as early as October.

Despite the distribution of FOMC views, we continue to believe that a majority of the current voting members prefer to ease monetary policy again in the coming months, and that some further deterioration in economic data will eventually get more members on board.

A divided committee

Wednesday’s release underscores how divided the committee remains over the appropriate near-term policy path. Although all members likely downgraded their forecast for the level of interest rates at the end of 2019, there was disagreement around how much more accommodation will be appropriate. Seven members projected another rate cut by the end of this year, while five currently prefer to hold rates steady. But perhaps most strikingly, five participants went into this week’s two-day meeting preferring not to cut the benchmark rate.

Based on past communications, members appear to disagree on the relative costs and benefits of further cutting interest rates. Indeed, in the context of moderate inflation and limited room to ease policy, some see enough sources of economic weakness and policy uncertainty to warrant a more preemptive approach to easing financial conditions. However, others view the recent slowdown in growth as consistent with previous forecasts for some cooling as the positive effects of last year’s fiscal stimulus fade and the labor market approaches a plateau. These members also view financial stability risks as sufficiently worrisome to hold back.

Ultimately, we think a majority of the current voting FOMC members prefer to ease monetary policy again in the coming months, and that other members will get on board if economic data deteriorate further. And while we agree that fading fiscal stimulus has contributed to slower U.S. growth this year, the weakness in the economy likely also reflects spillovers from a more worrisome cyclical downturn in the global economy along with U.S. trade policies, which have disrupted normal trade, inventory, and production activity. We think this weakness, which has contributed to the recent loss of momentum in the labor market, makes the economy vulnerable to shocks and argues for more easing later this year.