Rejoice! After 13 months of speculation and trillions of dollars of bets on the financial markets, the Federal Reserve will finally make a small interest rate cut.
At the Fed’s annual Jackson Hole Policyfest, Fed Chairman Jay Powell finally uttered the magic words: “It is time to adjust policy,” Powell said. “The direction is clear, and the timing and pace of rate cuts will depend on the data to come.” If you have to translate that: The “direction” means that rates will fall, and the reference to the data to come means that the Fed will cut rates gradually unless a recession looms, in which case it will cut aggressively.
Markets knew this was coming, but it is still a crucial turning point that could help improve consumer sentiment ahead of the November election and bolster confidence that the high inflation of the past three years is finally over.
How it happened: When Joe Biden took office in January 2021, inflation was a negligible 1.4% and the Fed’s short-term interest rates were near zero. As we now know, a combination of factors, including COVID-era disruptions, massive shifts in consumer demand, trillions of dollars in fiscal stimulus, and Russia’s invasion of Ukraine, led to a violent wave of inflation in 2022 that peaked at 9% in June 2022.
The Fed’s primary job is to fight inflation, usually by raising interest rates. But this time, the Fed got off to a late start. It didn’t start raising rates until March 2022, when inflation was already at 8.5%. That late start forced the Fed to raise rates at one of the fastest paces ever, with 11 hikes that brought short-term rates to 5.5%. That sent rates on mortgages, auto loans, and every other type of credit skyrocketing, making anything that required financing suddenly more expensive.
While all this was happening, President Joe Biden’s approval ratings fell from a high of 55% to 40%, where they have remained for more than two years. Interest rates rose while inflation was still high – a shock to consumers who had enjoyed low interest rates and low inflation for more than a decade. Inflation has been declining since mid-2022, but interest rates have not, and voters’ dismal opinion of Biden contributed to his decision in July to drop out of the 2024 presidential race.
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The Fed’s last rate hike was in July 2023. Since then, it’s been a waiting game. The Fed wants to be sure it has beaten inflation before changing course and cutting rates. Investors have been scrutinizing every byte of inflation data for clues about what the Fed might do. There have been market rallies and market sell-offs on hints that inflation is falling faster or slower than expected, which in turn suggests the Fed might cut rates sooner or later. Every time a Fed policymaker makes a noise, investors tune out everything else and turn up the volume.
The suspense is now over. Powell made it clear that the Fed will begin cutting interest rates at its next meeting on September 17. It will be a quarter of a percent cut, unless the economy suddenly takes a turn for the worse, which would result in a half-percentage point cut.
The next meeting after that isn’t until November 6, right after Election Day, so voters won’t see any major rate cuts when they elect the next president. But they will know that rates are finally coming down, which might make people looking to buy a home or a car a little more optimistic.
Had this all happened six months earlier, Biden’s chances of re-election might have looked better before he left office in July. But it comes too late to help Biden, and besides, the Fed can’t lower Biden’s age, which is his other big liability.
Will the Fed’s rate cuts help Vice President Kamala Harris, who is now the official Democratic presidential nominee? It’s possible. As Biden’s No. 2, Harris carries some of the same burdens as Biden when it comes to high food and housing costs. She’s clearly trying to break with Biden by calling for new ways to reduce food and housing costs. Her approval ratings are 6 to 8 points higher than Biden’s, so maybe it will work.
As it stands, the election result will be remarkably close, with Harris and her Republican opponent, Donald Trump, fighting for every advantage. If inflation continues to fall and the labor market remains stable, rate cuts would not be a disadvantage for Harris; in fact, they could even be slightly positive.
As for Biden, once his presidency is over, it may turn out that inflation was only temporary after all and returned to normal by the end of his term. History may be kinder to him than the current electorate. The ultimate test may be whether they choose Kamala Harris as his successor.
Rick Newman is senior columnist for Yahoo FinanceFollow him on X at @rickjnewman.
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