December FOMC Trending to a Risk Management Cut then a Telegraphed Hold
- The Dec FOMC meeting seems likely see a ‘hawkish cut’, if such a thing really exists.
- Recent comments by a range of Fed officials suggest that a final risk management cut is in the cards, paired with a presumption of an extended pause afterwards.
- With rates now closer to neutral, especially in real terms, Powell will note this second set of risk management cuts by the FOMC is likely done, with more decisive moves from the data needed to drive policy away from just above real neutral in the near-term.
- The dot plot and SEP will be consistent with this message showing a less dovish medium-term rate path and perhaps a shift higher in neutral.
- A 1 or more hawkish dissents seem likely, and perhaps another dissent by the dovish Miran.
While data between now and the 10th may change some contours I imagine we will get the euphemistic “hawkish cut” with a Dec cut, completion of this second risk management driven easing cycle, the dot plot shifting somewhat more hawkish in 2026-27, and likely a move higher in the long run dot as well. Dissents, perhaps multiple hawkish ones, are tentatively expected in both directions with a 25bp cut. Powell is likely to note that while the Fed remains data dependent, with the data not conclusively breaking one way or the other, an extended pause after this second round of risk management cuts is their new baseline.
The December FOMC meeting will likely remain less pre-determined than most given the absence of contemporaneous high quality government data to more decisively shift the debate. With pre-meeting fedspeak almost done, my basic view boils down to buying cut odds at 55% and selling them at 85%.
Recent comments by Daly, Williams, and Waller have been important in shifting me towards a somewhat more dovish range for the meeting. They have long worked with Powell and likely reflect a strong sense of their own views of the best approach for the Fed to take as well as reflect the likely views of the full FOMC and Chair. This morning Miran noted that as the Fed makes progress in bringing rates down there seems to be less urgency in the pace of cuts was an important signal and suggests an implicit or explicit hawkish cut bargain to my listen.
After listening to the recent Fed speak and seeing September’s employment report, it seems that what data we’ve gotten has simply not been definitive enough to disprove the dovish case for a tentative majority of the FOMC. Given the data’s inability to play a more decisive role, this meeting is being driven more by officials’ differing sense of risks between larger but harder to calibrate impact labor market stall speed concerns and the certainty of 5y of above target inflation which is likely to persist well into 2026+. This ties into the wide range of views on neutral which, while not exactly the same as the committee’s hawk-dove axis, are playing more impactful role now as we start to enter the plausible range of neutral real rates.
The deciding factor likely comes down to an assessment that any errors on the labor market will be potentially larger and longer lasting than the higher likelihood but smaller inflationary overshoots. This is optimal control revisited. Some degree of continued inflation overshooting is known. Much, or all, of the move higher in inflation is being driven by tariffs, there are small odds of an underlying reacceleration, and while some see trend inflation as potentially above target that expected loss remains fairly small over time. The lower but larger impact and more persistent effects of more acute labor market weakness roughly balance that out (in some simple optimal control modeling, roughly 20% odds of a mild recession balance out with 2.5% core PCE inflation if you assume no long-run deanchoring). This assessment of the expected deviations of the two risks calls for a roughly neutral real, or barely restrictive nominal, policy stance.
Separately, it seems that the minimal dissent era of Fed policy is likely becoming ever more a thing of the past. The muddling through of the economy for much of the past 3 years has played a role in this, leading to starkly different assessments of the risk balances and structural forces in the economy which have changed since Covid. Many of these forces represent a partial reset away from post-GFC balance sheet repair and fiscal retrenchment headwinds but some build on more novel forces. A new chair is likely to only enjoy the type of public unanimity most recent chairs have experienced due to the unhelpful nature of the administration’s pressure and the only very gradually resolved macro-structural debates of the post-covid world.
