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FOMC July 2019 Meeting Review – Powell cut rates but reign in dovish expectations
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The US Federal Reserve cut interest rates by 25 bps in line with expectations. The Fed also decided to shrink its $3.6 trillion in bond holdings (also known as Quantitative tightening or QT) starting Aug 1, six weeks ahead of schedule, in order to make it more compatible with a looser monetary stance. The interest on excess reserves was also lowered by 25 bps.

The Fed statement was largely unchanged but pointed to global growth and disappointing inflation as the reason for a cut. The larger market moves came in the press conference when Powell said the cut was to 'insure' growth and that it was a mid-cycle cut. That sent the dollar to fresh highs and cut down the stock market, which sending US 2-year yields as much as 15 basis points above pre-Fed levels. 

Fed Chairman Jerome Powell cited global weakness, simmering trade tensions and a desire to boost too-low inflation in explaining the central bank's decision to lower borrowing costs. Personal consumption expenditures (PCE) index, Fed’s preferred gauge of inflation rose only 1.5% against the 2% target as per the last reading in July. The US annual inflation rate fell to 1.6% for 12 months ended June 2019, while core inflation rate stood at 2.1% as published by the U.S. Labor Department on July 11, 2019.

Powell pushed back against the idea that July’s quarter-point cut was the start of a long-running easing cycle. He indicated that ‘the rate cut was a mid-cycle adjustment’ and clarified further ‘that it does not necessarily imply a cycle of just one rate cut’.

The Fed's policy decision drew dissents from 2 Fed members - Rosengren and George (traditionally hawks) who argued for leaving rates unchanged.  In the day ahead, we will probably get statements from them regarding their dissents. Other Fed officials may also appear on TV and print to manage the message. Watch for comments from Fed doves in particular, if they also hint at a wait-and-see approach then the market will re-price.

The market was pricing in a 78% chance of a second cut at the September meeting ahead of the Fed and that has dropped to 64%. We were expecting a rate cut in December but market is discounting a move in September too. Data dependency seems to determine the timing of the next cut. However, the probability of a rate cut could fall further in the days ahead if other Fed members dial back easing rhetoric.

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