The Fed cuts by half a point: a bet on the soft landing

On 18 September, the Federal Reserve did the thing it had been preparing the markets for all year, and then did slightly more of it than expected. The Federal Open Market Committee cut the benchmark interest rate by half a percentage point, to a range of 4.75 to 5.00 per cent, the first reduction since March 2020 and a larger move than the quarter-point most forecasters had pencilled in. The chair, Jerome Powell, described the decision as a ‘recalibration’ of policy, and the word was chosen to smooth the transition from the language of inflation-fighting to the language of labour-market defence, but the substance was plain: the Federal Reserve believes the great inflation of 2021-2024 is over, and it is now worried, openly, about jobs.

The reasoning was laid out with unusual clarity. Inflation, which peaked above nine per cent in 2022, has fallen to around 2.5 per cent, close enough to the target for the committee to declare victory and move on; employment, by contrast, has been cooling for months, the unemployment rate has drifted upward, and the revisions to earlier payroll data showed that job growth over the past year had been weaker than anyone thought. The committee’s dot plot showed another half point of cuts by the end of the year and more next year, and the message, stripped of its hedges, was that the Fed is no longer fighting the last war. The risk it is managing now is the classic one of monetary policy: the risk of being late, of having waited so long to cut that the cooling labour market becomes a recession.

The markets took the news with the ambivalence the moment deserved. Stocks rallied, then fell back, as investors weighed the cut’s supportiveness against the signal that the Fed sees weakness serious enough to justify it; the bond market absorbed the move without drama; and the dollar drifted, the familiar choreography of a rate cycle turning. The Fed’s power to steer the economy is real but indirect; the transmission of this cut will take a year, and the cut itself, by the time its effects arrive, may be the smallest of several.

The political dimension is unavoidable, and both parties are already using the decision as ammunition. Donald Trump, who has spent months demanding cuts and attacking the chair personally, claimed the move was political, timed to help the Democrats; the administration, more quietly, presented it as proof that the economy is being managed competently. The Fed’s institutional answer, that it does not take politics into account, is both true and insufficient, because the timing of the cut, eight weeks before an election, guarantees that it will be read politically regardless of intent. The credibility built over decades survives this episode, probably, but it will be tested again before the year is out.

The deeper judgement embedded in the cut is the one that will be debated for years. The Fed had the choice, in 2021, to treat the inflation surge as temporary or to act early, and it chose, on the evidence of its own statements, to wait; the inflation it then fought required the fastest tightening in four decades, and the tightening has now been followed by a cut of half a point, delivered at the first sign of labour-market cooling, in an election year. Whether the sequence describes a central bank that learned its lesson or one that is overcorrecting in the opposite direction is a question only the economy can answer, and the answer will come in the unemployment reports of the coming year. The Fed has made its bet: that the soft landing is achievable, and that the landing field, the American labour market, is strong enough to hold. The bet was announced on 18 September; the outcome is booked for 2025.