#MacroFriday: Fed adjusts interest rate and inflation expectations higher for 2025

 

On Wednesday, the FOMC delivered what we expected, as outlined in last week’s #MacroFriday: a rate cut accompanied by hawkish commentary.

However, most attention shifted away from the rate cut to the Fed’s updated economic projections. The expectation for real GDP growth was slightly raised to 2.1% in 2025, reflecting confidence in the resilience of the US economy and labor market. The most notable adjustment, however, was in inflation expectations. Compared to the September projection of 2.1% for 2025, Fed officials significantly revised their forecast upwards to 2.5% just a few months later. This shift implies a slower pace of monetary policy easing. While monetary policy remains restrictive, Fed officials now anticipate only two rate cuts in 2025. Additionally, their projections for the longer-term Federal Funds rate rose to 3%, suggesting that the neutral rate (r*) has increased.

As previously mentioned, it’s evident that the Fed’s work is far from complete.

The current one-sided long positioning of investors in US equity markets leaves little room for error in upcoming data releases. Any disappointments could trigger sharp market reactions. This vulnerability was evident on Wednesday, as the Fed’s hawkish statement sparked adverse effects across financial markets. Equity markets tumbled, with the S&P 500 down 2.95% and the Nasdaq falling 3.56%. Meanwhile, the 10-year government bond yield climbed back above 4.5%, and the US Dollar Index gained over 1%.

This marks our final #MacroFriday of the year. 2024 proved eventful both on the macroeconomic front and in financial markets. We’re eager to see what 2025 has in store.

Wishing you a Merry Christmas and our warmest wishes for a healthy and vibrant 2025!