A senior official from the Federal Reserve stated that after the unusually large 50 basis point rate cut earlier this month, the Federal Reserve should resume 'gradual' rate cuts.

St. Louis Fed President Alberto Musalem said that the U.S. economy may respond 'very strongly' to looser financial conditions, stimulating demand and extending the time to achieve its 2% inflation target.

Musalem told the Financial Times last Friday, 'For me, the rate cut measures are easing the brakes on the economy at this stage, gradually reducing constraints on policies.'

In the forecasts released earlier this month, he was one of the officials expecting the Federal Reserve to cut rates multiple times this year. Musalem became the St. Louis Fed President in April and will become a voting member of the Federal Open Market Committee (FOMC) next year.

Less than two weeks ago, the Federal Reserve abandoned the more traditional 25-basis-point rate cut and instead initiated a 50-basis point cut, marking the first easing cycle since the outbreak of the COVID-19 pandemic in early 2020. This substantial rate cut will keep the federal funds rate between 4.75% and 5%. Fed Chairman Powell stated that this move aims to maintain the strength of the world's largest economy and avoid a softening labor market amid falling inflation.

Last Friday, the Fed's preferred inflation indicator—the August PCE annual rate—dropped to 2.2%, exceeding expectations. Following the data release, interest rate futures traders believe that the probability of a 50-basis point rate cut by the Federal Reserve in November is slightly higher than a 25-basis point cut.

In September, Musalem supported a significant rate cut, acknowledging that the labor market has cooled off in recent months, but given the low layoff rate and the economy's potential strength, he remains optimistic about the outlook. He mentioned that the business sector is in a 'good state,' overall business activities are 'stable,' and added that massive layoffs do not seem 'imminent.'

Nevertheless, he acknowledges the risk that the Federal Reserve may be pushed to cut interest rates faster. He said: "I realize that the weakness of the economy may exceed my current expectations, and so does the labor market. If that's the case, accelerating the pace of rate cuts may be appropriate."

This is echoed by comments made by Federal Reserve Board Governor Waller last week, who stated that if data weakens more quickly, he would be more inclined to actively cut rates. Muzalem stated that the risks of economic weakness or growth being too rapid are now balanced, and the next rate decision will depend on the data at that time.

The latest 'dot plot' from the Federal Reserve shows that most officials expect policy rates to drop another 50 basis points during the remaining two meetings this year. The next meeting will be held on November 6th, the day after the United States presidential election.

However, officials have differing views, with two suggesting the Federal Reserve should postpone further rate cuts, while seven others predict only a 25 basis point cut this year. Policymakers also anticipate that policy rates will decrease by another 100 basis points in 2025, closing the year between 3.25% and 3.5%, until the end of 2026 close to slightly below 3%.

Regarding the notion of the Federal Reserve being too slow in relaxing monetary policy and the claim that the 50 basis point rate cut in September was a "catch-up" move, Muzalem refuted this, stating that the pace of inflation decline was much faster than he expected.

He said: "A significant rate cut sends a strong and clear message to the economy that we are starting from a very favorable position, which is appropriate."

Editor/ping