Powell and his "Godo"

The Federal Reserve lowered interest rates by 25 basis points as expected, but a total of four officials supported keeping rates unchanged. The vast majority of Fed officials believe that inflation risks in the U.S. are skewed to the upside in 2025, and the unrealistic dream of disinflation over the past period has finally converged towards the reality of reflation.

In hindsight, the hawkishness of the December SEP represents the largest expectation gap, with the core PCE forecast for 2025 revised up to 2.5%, and the annual rate cut expectation narrowed to 50 basis points. Coupled with the still strong endogenous momentum in the U.S., the Fed's perspective of "strong reality, strong expectations" makes the hawkish rate cut in December a mirror image of the significant rate cut in September: lacking coherence.

Nominal growth is strong, and the restrictiveness of interest rates is questionable, so the necessity for consecutive rate cuts is inherently limited. The labor market has not weakened, retail sales continue to grow, and consumer confidence has returned to a high point after the election. In this context, disinflation feels like the "Waiting for Godot" that Powell has been anxiously anticipating; all he has done is repeat previous actions: cut rates and then wait, yet he still has not seen the appearance of "Godot."

Over the past year, Powell has continuously changed his reference frame to justify the (political) correctness of his monetary policy. Especially in the second half of 2024, the U.S. disinflation process has stalled, but two hurricanes have allowed him to switch freely, completing a total of 100 basis points in rate cuts for the year under the guise of concerns about economic growth (rising unemployment).

All of this comes at a cost, as the trend of inflation has not dispelled the fundamental question in the market: when will Godot arrive? As the Fed's risk balance clearly shifts back to "anti-inflation" (Powell personally admits that the economic growth rate in the second half of 2024 is significantly higher than expected), the December FOMC meeting marks the end of "Act One: Continuous Rate Cuts," entering "Act Two: Stop-and-Go."

The December SEP revised the core PCE forecast for 2025 up to 2.5%, reflecting the Fed's confidence being less rather than more. If the mainstream expectation for rate cuts has narrowed to 2-3 times, considering the uncertainty surrounding Trump, there is reason to doubt whether this is "the last rate cut for a while." Moreover, all of this may become more chaotic rather than clearer with Trump's return to office.

Powell himself believes that while interest rates still have some restrictiveness, the restrictiveness has clearly decreased; when asked about the neutral interest rate, he appeared ambiguous. The December FOMC meeting has pierced the "restrictiveness of interest rates" veil, and the neutral interest rate can no longer serve as a reason for continuous rate cuts. Getting rid of inflation is not the only "Waiting for Godot" that Powell is anticipating. As Trump begins to intervene in the bipartisan spending bill and Musk deepens reforms in the U.S. government system, the recessionary pressures they bring to the U.S. economy may become an "uninvited guest." With employment not yet showing an upward turning point, fewer Federal Reserve officials believe that the U.S. economy faces downside risks in the future. The market still believes that "tomorrow will be better," and this consistent optimism is something to be wary of.

The occurrence of two rate cuts in 2025 is merely a sum of probabilities, and it is difficult to realize this extent exactly; it will either be less or more. But this does not depend on Powell, but on Trump— in 2025, there is no monetary policy, only monetary countermeasures.

Author of this article: Song Xuetao S1110517090003, Zhong Tian, Source: Xuetao Macro Notes, Original title: "Powell and His 'Waiting for Godot' (Tianfeng Macro Zhong Tian)"

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