US Federal Reserve Cuts Interest Rates, Signals Slower Pace Of Future Reductions As Stocks Plunge

The US Federal Reserve announced on Wednesday that it had reduced interest rates by a quarter point and indicated a slower pace of cuts in the future, leading to a sharp sell-off in financial markets, reported AFP.

Policymakers voted 11-to-1 to lower the central bank's key lending rate to between 4.25% and 4.50%, as expected, the Fed said in a statement.

However, they also halved the number of quarter-point cuts they foresee for next year, reducing the expected cuts from an average of four in September to just two on Wednesday, catching the markets off guard.

All three major indices on Wall Street ended lower, while yields on US Treasuries surged as traders adjusted to the prospect of higher interest rates in the coming years.

While inflation has "eased significantly," it remains "somewhat elevated" compared to the Fed's long-term target of 2%, said Chair Jerome Powell during a press briefing on Wednesday.

He expressed "great optimism" about the state of the US economy, noting that the Fed is now "significantly closer" to ending its current cycle of rate cuts.

This was the final planned rate decision before outgoing Democratic President Joe Biden hands over to Republican Donald Trump, whose economic proposals include imposing tariffs and the mass deportation of millions of undocumented workers.

The non-partisan Congressional Budget Office (CBO) estimates that fresh tariffs would reduce economic growth and increase inflation.

After Trump's victory in the November election, some analysts had already reduced their forecast for the number of rate cuts expected in 2025, warning that the Fed may be forced to maintain higher rates for longer.

Inflation Battle Not Over

The Fed has made progress in tackling inflation through interest rate hikes over the past two years without severely damaging growth or employment. It recently began cutting rates to stimulate demand and support the labour market.

However, in recent months, the Fed's preferred inflation measure has increased, moving away from its target and raising concerns that the inflation battle is far from finished.

Members of the Fed's rate-setting Federal Open Market Committee (FOMC) now "need to see additional improvements in inflation to continue to cut rates -- full stop," wrote KPMG's chief economist, Diane Swonk, in a note published after the decision.

Higher Growth, Higher Inflation

In updated economic forecasts released alongside the rate decision, FOMC members pencilled in just two quarter-point rate cuts for 2025, halving the number they previously expected.

They also raised their forecast for US inflation next year to 2.5%, and do not anticipate it returning to 2% before 2027.

In some positive news for the world's largest economy, FOMC members raised their growth outlook for this year to 2.5% and to 2.1% for 2025.

Policymakers expect the unemployment rate to be slightly lower this year than previously anticipated at 4.2%, before rising slightly to 4.3% in 2025 and 2026 - a figure some analysts believe is overly optimistic.

"Rate cuts will come faster than the Fed expects, as unemployment exceeds the new forecast," said Samuel Tombs, chief US economist at Pantheon Macroeconomics, in a note to clients following the decision.