Whatever the Federal Open Market Committee (FOMC) does at its July 30-31 meeting, it could be one of the more pivotal Federal Reserve Board meetings in recent memory.
Despite years of carefully managing expectations, its recent FOMC decisions may have painted the Fed into a corner. No matter how things play out, the outcome of the next Fed meeting is bound to cause disappointment among some in the financial community - and create confusion for the public as well.
The potential for confusion and disappointment creates a problem that will hang over future FOMC meetings. Aside from the economic impact of Fed interest rates, the independence and credibility of the Fed are suddenly on center stage.
July 2019 Fed meeting: what's at stake
Market expectations and political pressure for a Fed interest rate cut have grown. However, economic conditions don't necessarily support a Fed rate cut.
How the Fed resolves this dilemma will not only determine the immediate direction of Fed interest rates; it will also shape what the business and investment communities believe about the Fed.
So, does the Fed give people what they want, or does it act according to its assessment of economic conditions?
Pressure mounts over federal interest rate
How did the stakes get so high?
Thinking back to when the year started, a Fed rate hike seemed more likely than a rate cut. Now anything short of a rate cut could cause a negative market reaction.
The reason this puts the Fed in a tough spot is that it is supposed to make monetary policy decisions based on economic data, not popular opinion. And yet the Fed itself seems to have stoked some of the popular demand for a rate cut.
Here's how the situation arose:
- In its December meeting, the FOMC resisted strong political pressure by making the latest in a series of Fed rate hikes.
- At that same meeting, the FOMC released a set of economic projections for the coming year indicating that one or two further rate hikes were likely for 2019.
- In its March meeting, the FOMC revised those economic projections to suggest that a rate hike was no longer in the cards for 2019.
- In Congressional testimony early this month, Fed Chairman Jerome Powell indicated that, while economic data remain generally solid, trends such as weakening global growth and continuing trade wars might make a rate cut necessary.
So, in four easy steps, the Fed has switched from a fiercely independent course pursuing higher interest rates to a wavering resolve that might lead to rate cuts.
If you read nothing about Fed interest rates except Wall Street commentary and political forums, it would be natural to assume a rate cut is a quick and easy way to give the economy a shot in the arm. However, there are dangers to giving medicine when the patient doesn't need it, and the economic backdrop shows no strong case for a dose of rate-cutting.
Economic backdrop a no-win situation for the FOMC meeting
Considering the Fed's dual mission of encouraging employment and stabilizing inflation, the numbers don't seem to support a rate cut.
Job growth has been up and down from month to month, but June was a strong month and the unemployment rate remains extraordinarily low. As for inflation, it has generally been lower than the Fed's 2.0 percent target but more stable in recent years than when the economy flirted with deflation earlier in the decade.
With no strong economic case for a federal interest rate cut, the Fed should be mindful of the dangers of cutting rates in the current environment:
- For one thing, rates are still lower than historical norms on an absolute and an inflation-adjusted basis. If rates are already low after ten years of economic growth, the Fed will have less room to cut rates during the next slowdown.
- Also, low rates could encourage a borrowing binge. With student loans, credit card debt, car loans and mortgage debt all at or near record highs, the Fed may want to consider tapping the brakes on encouraging borrowing rather than hitting the gas pedal.
- Finally, the Fed runs the risk of losing credibility if it looks as though it can be pressured by Wall Street or the White House into taking an action that is not supported by data. The independence of the Federal Reserve is a key source of stability in the global financial system.
So that's the no-win situation the Fed has helped create for itself going into next week's meeting. Does it risk its independence by giving in to the pressure to cut rates, or does it risk a negative market reaction by holding rates steady?
The takeaway: How this affects savings accounts and CD rates
Whether or not the Fed actually cuts rates at its July meeting, there is evidence that savings account and CD rates are starting to level off after a two-year rise.
If you have a savings account, having rates level off means you can no longer expect to see your interest rate steadily improve. However, for most bank customers, there are still a lot of opportunities to improve your rate by finding a more competitive savings account.
For CD customers, when rates level off, it can be a good time to switch to long-term CDs. This will allow you to take advantage of higher CD rates with less chance of missing out on rising rates. You can always hedge your bet a little by looking for a long-term CD with a relatively low early withdrawal penalty, in case rates resume their upward course.
Finally, while a possible rate cut may make it cheaper to borrow, you have to think long term. If your debt has been rising in recent years, make an effort to start paying it down while the economy is still relatively strong. After all, when the next recession finally hits, choices for consumers - and for the Fed - are going to get a lot tougher.
Previous Federal Reserve Board Updates articles:
|FOMC Date||2019 FOMC Meeting Update Articles|
|06/20/2019||Consumers Not Limited by Fed's Rate Decision|
|05/2/2019||Federal Reserve Pursues Rate Stability|
|03/21/2019||Shifting Stance: Fed Implies No Rate Increases in 2019|
|1/31/2019||Fed's Low Profile Won't Stop Interest Rates from Rising|
|FOMC Date||2018 FOMC Meeting Update Articles|
|12/21/2018||Expect more stable Fed rates in 2019 after latest hike|
|11/11/2018||Look for bank rates to move even as Fed stands pat|
|9/26/2018||September 2018: Rate hike may hurt more than help consumers|
|8/1/2018||Banks aren't waiting for Fed rate increases|
|6/13/2018||Your strategy when the federal funds rate rises|
|5/2/2018||Interest rates surge despite Fed's inaction|
|3/21/2018||Fed rate increases not helping consumers|
|1/31/2018||3 ways to profit when market rates outpace the Fed|