The Federal Reserve is poised to take a break from cutting interest rates on Dec. 11, but those looking for clear guidance on how long its pause will last will likely be disappointed.
After rate cuts at three consecutive meetings, the consensus at the Fed appears to be that borrowing costs are now low enough to shield the U.S. economy from weaker global growth and trade uncertainty. And while Fed officials have not ruled out a future rate cut, they have signaled they would have to see a "material" change in the U.S. economy before easing again.
"The Fed wants time to sit back and evaluate the impact of the three previous rate cuts," said Greg McBride, chief financial analyst at Bankrate.com. "The economy is in a pretty good place [and] doesn't warrant aggressive action."
One sign that Fed officials are in little rush to cut rates again will likely come through their quarterly "dot plot" projections, which are expected to show the median Fed official would support keeping rates unchanged in 2020.
Markets appear to believe the Fed can stay on the sidelines for several months but that it may cut rates again later in 2020, according to the CME Group's FedWatch tool, which showed a 59% probability as of 3:50 p.m. ET on Dec. 9 that the Fed will cut rates at least once by the end of 2020.
The Fed meeting comes days after the latest U.S. jobs report showed the country added 266,000 jobs in November, a figure that shattered analyst expectations and dampened fears of a looming slowdown.
But Fed officials have said the risks to the U.S. economy are still tilted to the downside, and policy-related uncertainties continue to cloud the outlook despite some signs of progress. That includes news this week that U.S. Trade Representative Robert Lighthizer and House Democrats have reached a deal on a revised version of the United States-Mexico-Canada Agreement.
Markets are also closely watching whether the U.S. will impose new tariffs on Chinese imports if both countries fail to reach a "phase one" trade deal before the Dec. 15 tariff deadline.
The trade uncertainty, combined with a broader deceleration in the global economy, has brought about a contraction in U.S. business investment and has battered the manufacturing industry. The sector shrank for the fourth straight month in November, according to a monthly survey from the Institute for Supply Management.
Meanwhile, the ISM's nonmanufacturing index has continued rising, but it registered a softer reading of 53.9% in November, down from 54.7% in October. A reading above 50% indicates the sector is expanding.
The weakness in manufacturing "seems to be spilling over to the services sector," a development that should dampen consumer spending and push the Fed to cut rates again, Bill Diviney, senior economist at ABN AMRO, wrote in a research note. He expects U.S. GDP to rise by 1.3% in 2020, a pace far below Fed officials' median forecast of 2%.
Consumers, who make up 70% of the U.S. economy, have so far continued to propel the economic expansion forward. Heading into the holiday shopping season, consumer sentiment remained elevated, and consumer spending on retail and food services ticked up.
Although markets are pricing in one more cut in 2020, a strong labor market has kept consumer confidence high and validates the Fed's view that the U.S. economy is "in a good place" despite the downside risks, wrote Beth Ann Bovino, chief U.S. economist for S&P Global Ratings, in a research note.
"We think the Fed is done reacting to the risk of economic weakness," Bovino wrote. "With three rate cuts now in the rearview mirror, we are in a new 'data watching' phase of the interest rate cycle where the Fed appears to be likely not to cut rates until a material change (to the downside) in the trend."
At the same time, a muted inflation outlook limits the risk that the Fed may be prompted to hike rates anytime soon, she added.
The Fed's preferred inflation gauge continues to come in below the Fed's 2% target, as it rose by 1.6% year over year in October after rising by 1.7% annually in September.
Markets' view of expected inflation on average over the next five years has risen in recent weeks but is still below 2%. The 5-year break-even inflation rate was at 1.59% as of Dec. 6, up from 1.44% on Oct. 31.
Fed Chairman Jerome Powell has repeatedly cautioned that the Fed wants to avoid an "unhealthy downward drift" in inflation expectations, which he says would only make it harder for inflation to get to 2%.
He also has made it clear that "just touching 2% inflation would not be sufficient" to put rate hikes on the table, Ellen Zentner, chief U.S. economist at Morgan Stanley, wrote in a research note.
"We would need to see a really significant move up in inflation that's persistent before we would consider raising rates to address inflation concerns," Powell told reporters in October, adding that the Fed does not see that risk right now.
