FOMC Cuts Fed Funds Rate by 75bps

• The FOMC cut the fed funds rate by 75 bps to 2.25%. This was largely in line with market expectations, though was less than our forecast for a 100 bps rate cut
• The discount rate was also cut by 75 bps to 2.5%
• There were two dissenters at this meeting, which is unusually high
• The FOMC signals further rate cuts in its communiqué

The FOMC cut both the fed funds and the discount rate by 75 bps today. The federal funds rate is now at 2.25%, while the discount rate is now at 2.5%, preserving the 25bps spread between the two. The statement continued to take on a dovish tone citing that "economic activity has weakened further." The committee noted that consumer spending and labour markets have softened. In addition, financial markets remain under pressure.

It was not a unanimous decision. Dallas Fed President Fisher and Philadelphia Fed Plosser were the two dissenters at this meeting, preferring to take less aggressive action at this meeting. This is the first time there have been two dissenters since the September 2002 meeting. President Fisher, in particular, remains one of the FOMC’s notably hawks and with the Fed’s statement retaining a view that inflation remains elevated, there are clearly indications that inflation is not off the Fed’s radar. The FOMC did note that "inflation has been elevated and some indicators of inflation expectations have risen." So it is not that the dissenters were against rate cuts, per se, but that they were against rate cuts of this size.

The tone of the statement, on balance, suggested that more rate cuts are in the pipeline. It is interesting that the Committee noted that it will "act in a timely manner as needed to promote sustainable economic growth and price stability." This is a contrast to the last statement when the FOMC noted that it will "continue to assess the effects of financial and other developments on economic prospects." In combination with the statement that "downside risks to growth remain" it points to further rate cuts.

Given that credit markets remain in a fundamental paralysis, and the economy continues to unwind, we are of the view that the Fed will remain in an easing cycle for the next few meetings. The key issue is to first unclog the credit markets and get the wheels turning again. The economy will naturally have to reach a bottom, and with sufficient stimulus, the Fed can engineer a modestly softer landing than otherwise. As such, we expect considerable further easing in the near term.

TD Bank Financial Group

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