The US Federal Reserve cut its key interest rate by a quarter of a point on Wednesday – its third cut this year – but also signaled that it expects to cut rates next year more slowly than previously expected, with inflation still lingering above two percent at the central bank. target.
The Fed's 19 policymakers expected to cut their benchmark rate by a quarter-point just twice in 2025, down from their September estimate of four rate cuts. Their new projections indicate that consumers may not have much lower rates next year for mortgages, car loans, credit cards and other types of loans.
Fed officials have emphasized that they are slowing their rate cuts as their benchmark rate approaches what policymakers refer to as “neutral” — the level that does not it is thought to stimulate or hinder the economy.
Wednesday's projections suggest that policymakers may believe they are not far from that point. Their benchmark rate stands at 4.3 percent after Wednesday's move, which followed a steep half-point drop in September and a quarter-point cut last month.
“I think the slower pace of (rate) cuts really reflects both the higher inflation readings we've had this year and the expectation that inflation will be higher” in 2025, Chairman Jerome Powell said at a press conference.
“We are closer to the neutral point, which is another reason to be cautious about other trends.
“Nonetheless,” said Powell, “we see ourselves as still on track to cut.”
Loonie slides in response to the cut
The Canadian loonie slipped further against the US dollar – which continues to outperform other currencies – in response to the cut on Wednesday afternoon.
“Jerome Powell was talking about the US economy clearly outperforming not only domestic expectations, but also the rest of the world,” said Karl Schamotta, chief market strategist at Corpay, a Toronto payroll management company.
“That means US interest rates are high, and that makes US markets the best place in the world to park money.”
A number of other factors have driven the loonie's decline over the past months and years, including the end of a “supercycle” that saw high demand for Canadian energy, as well as a slowdown in high household debt. consumer spending and Trump's threat of 25 percent tariffs. on Canadian goods.
With that, “you really have a lethal cocktail for the Canadian dollar,” Schamotta told CBC News. And the loonie could sink “at least a couple of cents lower” if Trump goes through with his threat .
That would have a severe impact on the export sector. Consumer sentiment in Canada would sink, and businesses would further pull back on investment, Schamotta said.
“All of that would mean that Canada would be very likely to go into recession. “
But Canadian exporters are hurt when the loonie underperforms against the US dollar, Schamotta said. A lower correction could mean that some of these exporters “are going to be put in a better position.”
“They are going to be able to sell cheaper exports to the world, and they are going to be able to grow,” he said. “So this is a bit of a rebalancing process.”
High inflation continues, pace of hiring is cooling
The Fed's rate cuts this year marked a reversal after more than two years of high rates, which largely helped to quell inflation but made borrowing very expensive for American consumers.
But now, the Fed faces several challenges as it tries to complete a “soft landing” for the economy, where high rates manage to curb inflation without causing a recession. economy. Chief among them is that inflation remains subdued: According to the Fed's favorite gauge, annual “core” inflation, which excludes the most vulnerable sectors, was at 2.8 percent in October. That is still above the central bank's two percent target.
At the same time, the economy is growing rapidly, which suggests that higher rates have not hindered it much. As a result, some economists – and some Fed officials – have argued that lending rates should not be lowered much further for fear of overheating the economy and causing they are inflation.
On the other hand, the pace of hiring has cooled significantly since the start of 2024, a potential concern since one of the Fed's mandates is to maximize employment.
“We don't think we need any further cooling in the labor market to get inflation below two percent,” Powell said at his press conference.
Although still low at 4.2 percent, the unemployment rate has risen by nearly a full percentage point in the past two years. Concerns about rising unemployment contributed to the Fed's decision in September to cut its key rate by half a point more than usual.
Trump's tariff threats increase uncertainty
In addition, US president Donald Trump has proposed a range of tax cuts and a re-scaling of regulations that could boost growth together. And the threatened tariffs and massive exports could accelerate inflation.
Powell and other Fed officials have said they cannot assess how Trump's policies might affect the economy or their own rate decisions until more information is available. Until then, the outcome of the presidential election has largely increased economic uncertainty.
That was reinforced by the quarterly economic forecasts that the Fed released on Wednesday.
Policymakers now expect headline inflation, as measured by their preferred benchmark, to rise slightly from 2.3 percent now to 2.5 percent by the end of 2025.
The officials also expect the unemployment rate to increase by the end of next year, from 4.2 percent now to 4.3 percent which is still low.
