Powell Paves Way for Rate Cut, But Economic Data Could Upend Bets

Powell Hints at Rate Cut, But Economic Data Holds the Key

Federal Reserve Chairman Jerome Powell has cleared a path for a potential interest rate cut next month, but two key economic reports still have the power to upend Wall Street's bets. This came during his speech at the annual Jackson Hole Economic Symposium.

Powell used his speech to suggest that the increasing risks posed by high borrowing costs could harm the labor market, meaning the Fed could have reason to cut rates as early as September. U.S. stock and bond markets jumped immediately, and investors ramped up their bets that the Fed is about to begin cutting interest rates.

Previously, the Fed had held interest rates steady throughout this year amid concerns that President Trump's tariff policies would lead to runaway inflation. Futures markets now show a 75% chance of a 25-basis-point cut to the main interest rate at its mid-September meeting. Many Wall Street economists expect further cuts to the federal funds rate, currently in a range of 4.25% to 4.5%, later in 2025.

However, investors, economists, and some Fed officials say that upcoming inflation and labor market data could still disrupt those plans. Stephen Brown of Capital Economics wrote, "(Powell's) conclusion—'given the policy in restrictive territory, a shift in the baseline outlook and the balance of risks might call for us to adjust policy stance'—makes clear that a September rate cut is now the most likely outcome." He added, "Nonetheless, Powell’s lingering caution suggests that a very strong August jobs report or a more alarming set of price data could still delay a cut."

A Challenging Situation

The debate comes as the Fed faces a conflict between its dual mandate to promote maximum sustainable employment and price stability. Powell said last Friday, "Inflation risks are tilted to the upside, while employment risks are tilted to the downside, and this is a challenging situation."

July's nonfarm payrolls data, released after the Fed's last meeting, showed job growth slowed sharply this summer, pointing to increasing stress in the labor market. However, the unemployment rate has remained low at 4.2%, helping to offset some market concerns.

Meanwhile, a heated debate is raging inside the Fed and on Wall Street over whether the sweeping tariffs Trump imposed on trade partners will lead to a sustained outbreak of inflation or a one-off price jump.

Many businesses have indicated that once they use up pre-tariff inventories, those levies will start to affect their costs more severely. But so far, their impact on consumer prices has been subtle, with the CPI rising 2.7% year-over-year in July, and the Fed’s preferred personal consumption expenditure (PCE) price index rising 2.6% annually in June, above the Fed's 2% target.

One-off price jumps are easier to manage than sustained increases because they’re less likely to unanchor consumers’ long-term inflation expectations. Powell noted in his speech, "We will not allow a one-off increase in the price level to develop into an ongoing inflation problem."

The August jobs and consumer price index (CPI) reports, due on September 5 and 11 respectively, will offer the most crucial near-term signals. Michael Gapen of Morgan Stanley said that while Powell's speech pointed to "a new, more dovish tilt…it did not explicitly say the Fed will cut rates in September, although that's as close as it's gotten given the data between now and then."

Hawks and Doves Clash Within the Fed

Several members of the Federal Open Market Committee (FOMC), the Fed's rate-setting body, also remain uncertain about how Trump's tariffs will play out.

St. Louis Fed President Musalem, a voting member of the FOMC this year, said after Powell's speech that the inflation rate is closer to 3% than the Fed's 2% target, Musalem noted, "there is a possibility, although not the base case, that inflation may have some persistence."

Boston Fed President Collins, also a voting member this year, said there is still "reason to spend a little more time." She added, "Our course of action at our next meeting is not preordained. We will get more data between now and then." Kansas City Fed President Schmid said he believes the labor market remains solid, while Chicago Fed President Goolsbee said he is concerned about persistent inflation in the massive service sector.

The debate comes as Powell faces fierce attacks from the White House against him and other top Fed officials. Trump has said the Fed should slash interest rates dramatically to just 1%, and labeled Powell a "fool" and an "idiot," saying he's always "too late."

At this Jackson Hole symposium, destined to be his last as chairman, attendees viewed Powell's remarks as a master class, articulating the case for lower borrowing costs in language that did not appear to be a capitulation to immense White House pressure. In addition, he won a standing ovation from central bankers from various countries, some of whom felt that Powell's struggle was their own.

The Fed chairman also faces more moderate dissent from within the FOMC. His two fellow governors Waller and Bowman both supported a 25-basis-point rate cut at the last vote in July, and both are considered potential successors to Powell when his term as chairman ends next May. This is the first time since 1993 that two governors have voted inconsistently with the chairman on an interest rate issue.

In addition, if Trump nominates Milan to replace Kugler on the Fed's board and his nomination is confirmed by the Senate before the FOMC vote, he would likely also support a rate cut.