A “Recalibration” of Fed Policy Subject to Interpretation

After a bit of a digestion period, investors are now praising the Fed’s “recalibration” of policy. Following a larger, more aggressive 50bp cut out of the gate, the market now seems to be anticipating a rush back to accommodation, as opposed to policy simply resetting from restrictive back to neutral. And by extension, expectations of the former appear to be unleashing “animal spirits,” amid visions of a soft landing, robust corporate profits and a pickup in underlying growth dancing around?in the minds of investors.?

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Policy makers, meanwhile, have offered a?counter, somewhat more tempered message that understandably has been largely ignored. Despite Chair Powell’s protest during the press conference that the Committee is in “no rush” to continue with rate cuts, and furthermore that 50bp moves should not be seen as the new normal pace, market players appear blinded by the prospect of a potential return to the days of easier monetary policy.?

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As we’ve long warned, the risk with a larger 50bp cut was always inadvertently sending an inappropriate signal of the Fed’s intentions to rush back to point of supporting the economy, as opposed to simply unwinding policy firming towards neutral as inflation moves closer to the target level.

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As of late, the market continues to anticipate an additional 71bps of rate cuts by year-end followed by an additional 122bps next year before reaching a longer-run low of 2.76% in 2026, a noticeably lower and more expedited pathway relative to that expressed in the Summary of Economic Projections.

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Yesterday, on the economic calendar, the latest read on jobless claims reinforced Powell’s “solid” assessment in labor market conditions. Initial jobless claims fell 12k in the week ending September 14, the lowest since May. The four-week average declined from 231k to 228k. Continuing claims, or the total number of people claiming ongoing unemployment, fell from 1.84M to 1.83M.

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Also yesterday, the Philly Fed Business Outlook Index rose from -7.0 to +1.7 in September, more than the expected rise to 0.0 and a two-month high. In the details of the report, prices paid rose ten points to 34.0, the highest reading since December 2022 and averaging 23.7 over the past six months, while prices received increased from 13.77 to 24.6 in September. Also, the number of employees rose from -5.7 to +10.7, a two-month high. On the other hand, new orders declined from +14.6 to -1.5 in September, the lowest reading in three months.

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Additionally, the Leading Index fell 0.2% in August, slightly less than the 0.3% decrease expected and following a 0.6% drop the month prior.

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Finally, yesterday, existing home sales fell 2.5%, more than expected, from 3.96m to a 3.86m unit pace in August, a ten-month low. Year-over-year, existing home sales fell 4.2% in August, down from the 2.2% gain last month and marking the 27th consecutive annual of decline. Due to a fall in sales, the months’ supply of existing homes ticked higher from 4.1 months to 4.2 months, averaging 4.1 months over the past three months. Additionally, from a price standpoint, the median cost of a previously owned home climbed 3.1% in August from a year earlier to $417k, down from $421k the month prior.????????

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This morning, the economic calendar is empty.

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Next week, the economic calendar begins on Monday with the Chicago Fed National Activity Index, along with the S&P global U.S. manufacturing, services, and composite PMIs.

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On Tuesday, the FHFA House Price Index, along with the S&P CaseShiller 20-city and national price indices, the Conference Board’s Consumer Confidence Index, and the Richmond Fed Manufacturing Index for September.

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Later in the week, on Wednesday, weekly mortgage applications and August new home sales.

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On Thursday, weekly jobless claims, along with a highlight for the week – the final Q2 GDP print. GDP was unexpectedly revised higher from a 2.8% gain to a 3.0% annual rise in the second-round release, the largest gain in two quarters. In the final edition, Q2 GDP is expected to be revised down slightly to split the difference at 2.9%, still marking a two-quarter high.

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Also on Thursday, August durable goods orders, along with pending home sales, and the Kansas City Fed Manufacturing Activity Index.

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Wrapping up the week, on Friday, we’ll take a look at the August personal income and consumption report, along with the PCE – the Fed’s preferred inflation gauge. Personal consumption is expected to rise 0.3% in August and 5.0% on an annual basis, a potential downtick from the 5.3% annual gain in July, albeit still very solid on a nominal basis and well within the range established since May 2023. Income, meanwhile, is expected to rise 0.4% in August and 4.4% year-over-year, also marking a potential downtick from the July pace of 4.5%.?

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The PCE is expected to rise 0.1% in August following a 0.2% gain the month prior, and 2.3% on an annual basis, potentially marking a two-tenths of a percentage point decline from the pace reported in July. Stripping out food and energy, the core PCE is expected to rise 0.2% in August, following a similar gain the month prior, and potentially increase 2.7% year-over-year. In this case, this would mark a potential uptick from the 2.6% annual increase in July, and certainly a disappointing reality in the wake of the latest September rate cut announcement.?

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Also on Friday, wholesale inventories, and the final University of Michigan Consumer Sentiment Index read for September.?

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Finally, on the Fed-speak front, breaking their silence in the aftermath of the September rate announcement, we will hear from a number of Fed officials next week – including Atlanta’s Bostic, Chicago Fed President Austan Goolsbee, Kashkari from Minneapolis, and even Chair Powell himself on Thursday, along with New York’s Williams, and Governor Barr. Amid a somewhat mixed message from the Fed with a more aggressive cut coupled with a somewhat hawkish message and positive assessment of the economy, investors will be anxious to hear further commentary regarding the decision and what it means for the pathway for rates going forward.?

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-Lindsey Piegza, Ph.D., Chief Economist