The likelihood of a Fed rate cut is decreasing due to concerns about inflation

Schmid brought one statement that explained his reasoning.

“In my assessment, the labor market is broadly in equilibrium, the economy is showing continued momentum and inflation remains too high,” the statement said in part. “I view the policy stance as only modestly restrictive. In this context, I considered it appropriate to maintain the policy rate at this week’s meeting.”

Fear of inflation keeps policy in check

The federal funds rate is currently between 3.75% and 4%, the lowest level in three years. By July 2023, it had risen to 5.25% to 5.5%, the latest in a long series of increases the Fed had made as it tried to combat 40-year high inflation.

Since then, the Fed has repeatedly left interest rates unchanged. But it also cut them by a total of 150 basis points, starting with a 50 basis point cut in September 2024, followed by four more cuts of 25 basis points each.

Mortgage interest rates have not developed in line with these policy movements. In fact, in the wake of last year’s 50 basis point cut, they rose from a low of 6.25% to a peak of almost 7.2% in January.

At the beginning of the second Trump administration, fears arose of a new inflation linked to the president’s global tariff regime.

But while annual inflation rose marginally to 3% as of September, rates have not caused prices of goods and services to skyrocket back to their peak of 9% in 2022. And mortgage rates have gradually fallen to their current level of almost 6.25%.

Still, the potential for higher inflation is influencing decision makers like Schmid.

“When I talk to contacts in the Kansas City Fed district, I hear widespread concerns about continued cost increases and inflation,” he said. “Rising health care costs and insurance premiums are at the top of the agenda. The numbers show that inflation is spreading across categories, both goods and services. Inflation has been above the Fed’s 2 percent target for more than four years.

“As I have said before, I take little comfort that most measures of inflation expectations have not increased. I view inflation expectations not as an input to the Fed’s decisions, but as the outcome of the policy decisions the Fed makes.”

‘Cuddle a mortgage spread’

In a recent episode of the HousingWire Daily Podcast lead analyst Logan Mohtashami said fears of rising mortgage rates colliding with Fed cuts — similar to what happened this time last year — are unfounded because of the weakening labor market.

“If it wasn’t, mortgage rates would be higher because the Fed will say we are modestly restrictive (on policy),” Mohtashami said. “So nurture a mortgage spread and thank bond traders for getting ahead of the Fed. They’re doing a lot of what we’ve always said: heavy lifting for the Federal Reserve early on.”

In one after published on Tuesday, Desmond Lachman, a senior fellow at the American Business Institute, supported Powell and the Fed’s recent policy decisions.

Along with the data outages caused by the federal government shutdown, Lachman wrote that the rise of artificial intelligence — and its potential to reduce job losses — is complicating the central bank’s ability to read the tea leaves for the future of the U.S. labor market.

“At a time of an AI revolution whose future is difficult to predict, it is all the more challenging to successfully steer the US economy,” said Lachman. “This makes me think that Powell is right not to make any major changes to monetary policy at this time and to be guided by the incoming data when he eventually resumes his interest rate decisions.”