Fixed income markets expected the Federal Open Market Committee to cut interest rates on September 17. However, despite emerging conviction that a cut may be coming, bolstered by Jerome Powell’s recent Jackson Hole speech, significant questions remain for monetary policy for the medium term.
Will Trump Influence Monetary Policy?
The Trump administration continues to excerpt pressure on members of the FOMC. That includes continued criticism of Jerome Powell and, more recently, calling on policymaker Lisa Cook to resign. In addition, Trump will nominate a new Fed Chair for 2026. For now, that pressure doesn’t appear to have impacted monetary policy, but it may. Trump nominee Stephen Miran may be appointed to the FOMC before the September meeting.
Where Is The Neutral Rate?
If the FOMC elects to cut interest rates in September, it may be in order to make interest rates a little less restrictive, dialing back recent tightening, rather than meaningfully cut rates on an ongoing basis.
However, that then begs the question of where the neutral interest rate is. That’s something that economists debate. One potential clue comes from policymakers’ own Summary of Economic Projects where long-term interest rates are forecast. That projection from last June gives a broad spread of outcomes from 2.5% to 4%.
This suggests that if the policy goal is to move rates to a more neutral level then there’s debate about how much rates would need to be cut to achieve that. Fixed income markets, too, see a broad range of outcomes with a reasonable chance rates ending 2026 anywhere in a range of 2.25% to 4%, according to the CME FedWatch Tool. That’s broadly similar to policymakers’ own assessment.
Will A Policy Trade-Off Be Needed?
One scenario policymakers would prefer to avoid is stagflation. That’s where unemployment increases and inflation heats up, too. In such a scenario interest rates are pulled in different directions. Above target inflation would call for high interest rates, a weakening job market would call for lower rates. That creates a trade-off for monetary policy.
That’s not the case yet, for now inflation is only slightly above the FOMC’s goal and unemployment has been broadly stable for many months. However, there are some recent signs whether via elevated producer price increases or soft job creation from May to July, that the job market could be losing steam as inflation starts to move up. In such a scenario, policymakers expect to focus on whether jobs or inflation are further from target, but that can be a difficult thing to assess.
What To Expect
A September interest rate cut appears likely. However, beyond that there is significant uncertainty. This will be informed by the actions of the Trump administration, upcoming data releases regarding inflation and unemployment trends together with policymakers’ own assessment of where a neutral interest rate might be. The broad expectation is that interest rates do move lower over the next 18 months, but how much and how fast remains uncertain and currently a broad spread of outcomes are possible.
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