The Fed Sets the Stage for a July Rate Cut - July 15, 2019

The Federal Reserve is gearing up for July 31st rate cut and possibly additional cuts following Fed Chief Jerome Powell’s testimony before two Congressional committees. Last week, Powell didn’t explicitly say a rate cut is forthcoming. He’d never go that far. But his remarks opened the door pretty wide at the upcoming July meeting.

Powell reiterated comments he made after the Fed’s June meeting, noting policy makers will “act as appropriate to sustain the expansion.” That’s FedSpeak for rate cuts if the need arises.

Moreover, he repeatedly emphasized that trade uncertainty is weighing on business confidence and business investment. Plus, he added, “Growth around the world has disappointed on net, raising concerns that weakness in the global economy will continue to affect the U.S. economy.”       

It’s not that growth at home is stalling. It’s not. But monetary policy works with a lag. A rate cut today wouldn’t impact the economy for at least six months. Hence, the Fed appears set to counter economic uncertainty.

One and done… or a series of rate cuts

In a rather wonky remark, Powell pointed out that if inflation falls well below 2%, the Fed could get behind the curve. If lower inflation gets baked into interest rates (meaning lower rates), it gives the Fed less room to act if the need really arises. Europe and Japan are glaring examples.

Might Powell be hinting the Fed could be entering a more aggressive rate cut cycle? Investor reaction in the wake of his testimony suggests that may be the case. Included in this week’s record run – the S&P 500 Index closed above 3,000 for the first time.

Rate cuts and the economy

During 1984, 1995, and 1998, rate cuts that helped keep the economy in growth mode fueled market gains. Rate cuts in front a recession did little to boost shares. Ultimately, it’s about economic growth, which supports profit growth.

Apart from the 1987 market crash and a mild bear market in 1966, which was in response to a steep slowdown in growth, bear markets over the last 50 years have centered around recessions.

A rapid rise in inflation during the 1970s slowed the bulls, but historically, economic expansions have been a critical ingredient in bull markets.