Undercurrents are surging, and internal divisions within the Federal Reserve are expected to intensify!

The Federal Reserve is expected to agree to a 25 basis point rate cut at its next meeting, while debates about the future path of interest rates are intensifying. On the surface, the Federal Reserve appears calm, with economists anticipating a broad consensus on a 25 basis point cut to a range of 4.5%-4.75%. The policy statement released alongside the decision is not expected to change significantly. Essentially, the Federal Reserve believes that monetary policy is already tight and aims to gradually lower rates. However, economists indicate that beneath the surface, there will be intense discussions and disagreements about the future direction of interest rates. Ryan Sweet, Chief U.S. Economist at Oxford Economics, stated, "There is a lot to discuss behind the scenes." Lindsey Piegza, Chief Economist at Stifel Financial, believes that the divisions within the Federal Reserve are much greater than the public realizes. Piegza noted that one group of officials is cautious about rapid rate cuts due to persistently high inflation, while another group is more concerned about a potentially weak labor market, which increases the demand for further significant rate cuts. “It is almost fair to say that the Federal Reserve is experiencing a clear polarization on this dual mandate,” Piegza said in an interview. Complicating matters is the uncertain economic outlook. To some extent, the Federal Reserve is in uncharted territory. Dario Perkins, Managing Director of Global Macro at TS Lombard, wrote in a report to clients, “The current situation is really strange— the Federal Reserve has raised rates 200 basis points above the estimated neutral rate, yet there is no sign of a recession.” Therefore, at this week’s meeting, Federal Reserve officials have many issues to discuss. Here is a brief overview of some key topics surrounding the Federal Reserve. Final Rate Cut Target Federal Reserve officials want to gradually lower rates, but there is no consensus on when to stop or pause the cuts. While the Federal Reserve aims to adjust its benchmark rate to a "neutral" level that neither stimulates nor weakens demand, officials have not reached an agreement on what the neutral rate is. They publish their estimates quarterly, but these estimates range from slightly above 2.0% to nearly 4.0%. Sweet stated, “I think the discussion about this neutral rate is very active,” noting that this issue has been a central topic among Federal Reserve officials for months. Sweet added, “They don’t know where the destination is, nor how quickly they want to get there.” Some Wall Street economists even question the concept of a neutral rate, arguing that it is merely an estimate. Lou Crandall, Chief Economist at Wrightson ICAP, stated that publishing the neutral rate “masks more information,” as it changes continuously based on economic conditions. Uncertainty of Elections When Federal Reserve officials meet, they may have a rough idea of who the next U.S. president might be. Although the presidential election will not affect the decisions they are about to make, the next government's tax, trade, and immigration policies will have a significant impact on the economy in the coming years. Michael Gregory, chief economist at BMO Capital Markets, stated in a report to clients that tariffs and other policies could affect the economy and inflation. He said, "Depending on the impact on the economy or inflation, the Federal Reserve may need to adjust its policy stance accordingly." Sweeet from Oxford Economics believes that regardless of who wins the White House, the impact of presidential decisions on the economy will not be felt until late 2025 or early 2026 at the earliest. Andrew Husby, senior U.S. economist at BNP Paribas, said, "It may be too early for Powell to comment on the impact of the U.S. election on monetary policy now." Some Form of Forward Guidance Federal Reserve officials have indicated that they will rely on data when deciding the pace and magnitude of interest rate cuts. This has led the market to pay closer attention to recent data, a trend that has persisted throughout the year. Some economists estimate that volatility in the U.S. Treasury market is twice as high on days when important data is released or when the Federal Reserve makes decisions compared to other days. Stock market volatility is also two-thirds higher. The International Monetary Fund recently stated that if the Federal Reserve clearly communicates that its policy path will not change due to any single data point, volatility will decrease. Gregory Daco, chief economist at EY-Parthenon, agrees, arguing that the Federal Reserve should present a more forward-looking narrative. "The era of relying solely on data is over," Daco said. Despite the uncertainty brought by the elections, the Federal Reserve should also forecast conditions for the next three months, six months, and twelve months