Federal Reserve Rate Cut Predictions to Surpass Wall Street's Cautious Forecasts

Pessimism surrounding Wall Street's rate cut expectations may be unwarranted. This week, the Federal Reserve is set to announce its updated interest rate policy, with a consensus expectation of a 25 basis point reduction, bringing the effective rate down to 4.4% from its current 4.7%. The more significant aspect of the discussion will revolve around the outlook for interest rates in the coming year. Investors are eager to determine whether policymakers will adhere to their September endorsement of lowering rates by an additional 100 basis points in 2025 or if their stance has become more hawkish. In September, Wall Street was confident that four rate cuts would occur by the end of 2025. However, according to the Chicago Mercantile Exchange's FedWatch tool, bond-market speculators now anticipate the central bank will lower interest rates by only 50 basis points next year. I concur with some of this assessment, as the Fed is likely to reduce its interest-rate expectations for 2025. Recent employment and inflation data indicate that growth is returning to pre-pandemic levels, suggesting the Federal Reserve is achieving its goals of full employment and price stability. Consequently, I believe the Fed will guide for 75 basis points worth of rate cuts in 2025, surpassing Wall Street's outlook of 50. This is crucial for risk-asset investors, as the cost of borrowing will continue to decrease, leading to increased loan activity, higher investment in the financial system, and a decline in payouts for money market funds and bonds. As a result, investors will seek better returns in risk assets like cryptocurrencies and stocks, driving prices higher. The Federal Reserve's Summary of Economic Projections (SEP) provides valuable insights into policymakers' outlook for economic growth, inflation, unemployment, and interest rates. The September SEP forecast predicted GDP growth of 2%, an unemployment rate of 4.4%, inflation at 2.3%, and borrowing costs at 4.4%. However, the current data suggests that GDP will increase by 2.2% in the fourth quarter, with the average rate of economic growth for the year at approximately 2.4%. The unemployment rate and inflation are also roughly in line with prior expectations, supporting a 25 basis point rate cut. The rate-cut outlook will be determined by employment and inflation trends, both of which are headed in the right direction. The pace of nonfarm payroll gains indicates that the labor market is stabilizing, and inflation is slowing down, with annualized growth at 1.6%, below the Fed's 2% target. Since the Fed began raising rates in March 2022, its goals have been maximum employment and stable prices. The recent data provides evidence that the labor market has steadied, and price pressures are returning to target. The real rate of interest based on PCE has an average rate of -0.05% from 2000 to 2020, and currently sits at 2.6%. If the central bank aims to return to a neutral rate, significant easing is still necessary. The economy is performing well, and the Fed does not need to be aggressive with its rate cut guidance. In fact, this is the desired outcome: economic growth that holds up and allows the Fed to take its time. A rapid rate cut would be a sign of a struggling economy, which is not the current situation. As a result, the Fed is expected to endorse borrowing costs ending 2025 around 3.7%, lower than Wall Street's current expectation of 3.9%, alleviating worst-case fears and supporting a steady, long-term rally in risk assets like bitcoin and ether.