Markets are running the rate cuts show now

Axios

4 days ago

Inflation is running above the Federal Reserve's 2% target, consumers are still spending, the labor market is slowing — all dividing economists over whether to cut interest rates. But it's not stopping investors from pricing cuts in.
Why it matters: The Fed, the White House and the financial markets all hope to control interest rates. Investors may have the upper hand.
By the numbers: Investors are pricing in an over 88% chance of a quarter-point rate cut at the Fed's September meeting.
Between now and April 2026, investors are pricing in four quarter-point cuts.
Zoom in: The bets on lower rates come despite evidence pointing to higher inflation, including:
A Producer Price Index reading that came in well above consensus estimates, indicating higher prices have been driven in part by tariff policy.
The core reading within the Consumer Price Index, the Fed's preferred inflation gauge, came in at over 3% from a year ago, above the Fed's 2% inflation target.
That's a difficult environment to lower rates, but Fed policymakers could put forward an "insurance cut," Joe Brusuelas, chief economist at RSM US, tells Axios.
Any further cracks in the labor market could help justify that as well.
Situational awareness: It wouldn't be the first time the central bank cut rates while inflation ran above its target.
The Fed pause of 2022 that led to a subsequent half-point cut in rates was driven in part by "large and increasingly optimistic speculation on Fed posture," according to a note from Bank of America.
What they're saying:"It's a three-sided competition pitting the Fed, White House and bond market against each other to determine the direction of the economy," Brusuelas says.
The bond market is sleepy right now, in part because many traders are on summer vacation.
Fixed-income investors will wake up as we get closer to the fall, and the September meeting of Fed policymakers.
Zoom out: If the Fed cuts in 2025, it would " likely take place amid a backdrop of rising year-over-year inflation," BofA notes.
That could lead to a weaker dollar, which also followed rate cuts amid higher inflation in the 1970s.
The yield curve could also steepen as investors price in higher long-term rates to fight the inflationary backdrop.
What we're watching: If the Fed yields to pressure from markets or the White House with a rate cut, the bond market will likely be the ultimate judge of whether the central bank made the right call.