In a surprise inter-meeting move this morning, the Federal Reserve (Fed) announced a 50 basis point cut in US interest rates to the range of 1% to 1.25%, attributing the cut to the evolving economic risks from the coronavirus.
The Fed decided to cut rates on its own, without a coordinated move by other major central banks, after the G-7 conference call earlier today. The Fed had the most room to move, as US rates were higher than those in the other G-7 countries.
The market had been expecting a rate cut at the next Federal Open Market Committee meeting, but the inter-meeting timing of this cut caught the market by surprise. Immediately following the announcement, fed fund futures rallied, indicating that the market expects to see additional rate cuts, and short-term rates fell faster than long-term rates, steepening the yield curve.
The economic impacts of the coronavirus are mostly yet to come in the United States and are highly uncertain. From that perspective, we view the Fed’s move as a type of “insurance cut.” Going forward, we expect markets to be driven by growth expectations in the face of the spreading virus. The Fed move on its own will likely have little impact on the path for economic fundamentals in the near term, and hence the ultimate impact of this move on risk markets is unclear at this stage.
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A basis point is one hundredth of a percentage point.
Fed funds futures are financial contracts that represent the market’s opinion of where the federal funds rate will be at a specified point in the future. The federal funds rate is the rate at which banks lend balances to each other overnight.
The yield curve plots interest rates, at a set point in time, of bonds having equal credit quality but differing maturity dates to project future interest rate changes and economic activity. In a normal yield curve, longer-term bonds have a higher yield.
The Group of Seven, or G-7, is made up of representatives of the major industrial nations, Canada, France, Germany, Italy, Japan, the UK and the US.
The opinions referenced above are those of the author as of March 3, 2020. These comments should not be construed as recommendations, but as an illustration of broader themes. Forward-looking statements are not guarantees of future results. They involve risks, uncertainties and assumptions; there can be no assurance that actual results will not differ materially from expectations.