On September 18, 2024, the Federal Open Market Committee (FOMC) decided to cut the interest rate on the U.S. dollar by 50 basis points (0.50%)—the first cut since the COVID-19 pandemic, specifically since March 15, 2020. This decision followed a series of eleven rate hikes interspersed with some periods of stability and a holding pattern over the past year.
With this decision, the interest rate on the dollar dropped from a range of 5.25%–5.5% to a new range of 4.75%–5%. This move signals the end of the monetary tightening cycle as the U.S. Federal Reserve finds itself balancing between a strong U.S. labor market and its 2% inflation target. The decision comes amid a wave of global stock market declines, starting from Wall Street, and rising expectations of a potential economic recession in the United States.
The 0.50% interest rate cut marks a significant turning point for the world’s largest economy, especially as geopolitical crises intensify in Ukraine and the Middle East. The Federal Reserve typically makes such decisions in response to global shocks and crises, as seen in 2020 due to the COVID-19 pandemic, in 2008 during the global financial crisis, and in 2001 after the “dot-com bubble.” This move ends four years of maintaining high borrowing costs in an effort to tame inflation.
Motivations Behind the Cut
While the rate cut was anticipated in line with the Federal Reserve’s “soft landing” approach, hinted at by its chair during the recent Jackson Hole meetings, and market expectations of a 0.50% reduction, some experts criticized the Fed for delaying its decision by several months compared to European and British central banks. The European Central Bank had already cut rates by a quarter point twice in 2024, while the Bank of England cut rates once in August. As a result, the U.S. Federal Reserve made a larger cut of 0.50% instead of the expected 0.25%, to compensate for not cutting rates in July amid concerns about risk management.
The Fed bases its interest rate decisions on a combination of economic indicators, including:
Inflation Rate: Inflation in the U.S. fell to 2.5% in August 2024, down from 9.1% in June 2021, due to lower energy and food prices. Inflation is expected to continue decreasing sustainably toward the 2% target.
Economic Growth: The U.S. economy has been expanding at a steady pace, with GDP growing by 3% year-over-year in the second quarter of 2024.
Labor Market: The unemployment rate stood at 4.2% in August 2024, down from 4.3% in July, marking the highest level in three years, with 7.1 million Americans unemployed. This indicates a slowdown in job creation in recent months.
Domestic Impacts
The U.S. interest rate cut, following more than four years of monetary tightening, is expected to positively impact financial markets, the business community, and American households in several ways:
Real Estate Sector: Mortgage loans may experience the most noticeable effects, as mortgage rates are closely tied to government bond yields, which in turn reflect Federal Reserve policy. Mortgage rates have already dropped to their lowest level in 19 months, reaching 6.2% for 30-year fixed-rate loans, as brokers anticipated these rate reductions. This downward trend may continue as the Federal Reserve prepares for further rate cuts.
Consumer Loans: Consumer loans, including auto loans, will become less expensive with the Fed’s rate cut. Auto loan rates are currently at their highest since 2001, having risen from below 5% in 2021 to around 8.7%. It is also expected that rates on other types of consumer loans, such as variable-rate student loans and credit card interest rates, will decrease.
Labor Market: Businesses will also benefit from easier access to loans, which typically correlates with increased job creation. Companies can boost their profits due to lower borrowing costs, potentially leading to more hiring.
Stock Market: Lower interest rates usually benefit the stock market, as investors move their funds away from low-yield government bonds and money market funds in search of higher returns.
Savings: The most negative impact of rate cuts on Americans’ financial positions will be felt in high-yield savings accounts, time deposits, and money market funds, which have offered attractive returns over the past two years. Since these are closely tied to Fed rates, their yields will quickly diminish as the Fed lowers rates.
Presidential Elections: While Democrats welcomed the large rate cut and its potential to stimulate the U.S. economy, former President Donald Trump and his supporters argued that the move was politically motivated. However, the impact of the Fed’s decision on the outcome of the upcoming presidential elections is likely to be marginal. Neither candidate, whether Kamala Harris or Trump, has control over monetary policy, as the Federal Reserve operates independently from the elected branches of government. Therefore, both candidates can only hope that the Fed’s decisions will indirectly improve their chances in the race.
Global Reflections:
On a global scale, the U.S. interest rate stands as one of the most significant economic indicators. It influences numerous global markets, notably financial markets, oil, gold, international currencies, and cryptocurrencies. Additionally, it serves as a key benchmark for central banks around the world in shaping monetary policy trends. Therefore, the Federal Reserve’s decision to lower interest rates carries several global implications, the most prominent of which are as follows:
1. Rising Gold Prices:
The price of gold has surged to record levels as lower interest rates reduce the opportunity cost of holding non-yielding assets like gold, while the U.S. dollar weakens. Gold prices are expected to continue rising, potentially reaching $3,000 per ounce, driven by a weak dollar, falling bond yields, and increasing geopolitical tensions. Furthermore, ongoing rate cuts by the Federal Reserve are likely to fuel this upward trend.
2. Declining U.S. Dollar Index:
Lowering the U.S. interest rate diminishes demand for the U.S. dollar compared to other major global currencies, causing the dollar index to drop from 106 points in May 2024 to approximately 100.6 points after the Federal Reserve’s decision. These decisions are expected to have a profound impact on the future of foreign exchange markets due to their influence on the value of the dollar, the world’s reserve currency.
3. Increased Investment in Cryptocurrencies:
Cryptocurrencies have witnessed a significant rise as a result of the U.S. interest rate cut. It is anticipated that digital currencies will continue to climb higher as the Federal Reserve maintains its rate-cutting trajectory, leading to heightened speculation in the market.
4. Attracting More Capital to Emerging Economies:
The Federal Reserve’s decision could help alleviate economic challenges in emerging markets by attracting more capital and boosting bond flows. This encourages investors to seek more profitable investment opportunities in emerging markets with higher interest rates, such as Egypt and Turkey. As a result, this decision could have a positive impact on foreign direct investment inflows.
5. Easing External Debt Challenges:
Lowering interest rates benefits emerging and developing economies by reducing the burden of external debt, as much of their borrowing is typically denominated in U.S. dollars. Consequently, they must repay both the interest and principal in dollars. The reduction in U.S. interest rates helps lower the cost of borrowing for these markets.
6. Rising Oil Prices:
Oil prices recorded weekly gains of 4%, supported by the U.S. interest rate cut and declining American oil inventories, with Brent crude reaching $74.49 per barrel. Typically, lower interest rates stimulate economic activity and energy demand. Looking ahead, the impact of U.S. rate cuts on fuel prices will be felt in the medium term, assuming stability in regional and international factors, steady Chinese demand, and the absence of escalating geopolitical tensions that could cause unexpected fluctuations in oil prices.
7. Similar Decisions by Other Countries:
Central banks whose economies are closely tied to the U.S. often follow the Federal Reserve’s lead by adjusting their interest rates accordingly. In response to the recent U.S. rate cut, Gulf states have reduced their interest rates by approximately 0.5% to maintain foreign investment and prevent capital flight from their markets.
Future Projections:
The Federal Reserve is expected to reduce interest rates by an additional 50 basis points by the end of 2024, followed by a full percentage point cut in the next year, and a further half-point reduction in 2026. Meetings are scheduled for November 7 and December 18, 2024. According to forecasts, the U.S. interest rate decision for November and December will involve a 25-basis point cut, with policymakers targeting a total easing of 100 basis points by the end of 2024.
These projections reflect the Federal Reserve’s efforts to strike a balance between supporting economic growth and controlling inflation. However, these forecasts could change based on labor market conditions, inflation expectations, financial developments, international dynamics, future economic circumstances, and global geopolitical developments.
The desired outcomes of U.S. rate cuts, particularly on the dollar, typically do not materialize until the medium to long term. Additionally, close monitoring of labor market, growth, and inflation indicators is necessary, along with swift and positive responses to avoid any adverse effects in the near future.
In conclusion, the Federal Reserve’s decision to reduce interest rates by 50 basis points has triggered significant shifts in global markets, with notable effects on gold prices, emerging economies, and investor sentiment. Continuous monitoring of market indicators is essential to achieve a balance between controlling inflation and stimulating short-term growth.
