The Federal Open Market Committee started cutting interest rates in September and that broad trend looks set to continue. However, fixed income markets now see perhaps only two more cuts in 2025 according to the CME FedWatch Tool.
That’s in part as inflation, though cooling overall, is not immediately on track for the FOMC’s 2% annual goal. It’s currently closer to 3%. In addition, the jobs market and economic growth appears to be holding up relatively well on recent reports for November and Q3, perhaps adding a little inflationary pressure, even as unemployment is edging up from low levels.
One wild card remains rental costs. Were housing costs to decelerate in 2025 that may bring down inflation faster, perhaps enabling greater flexibility on interest rates.
December Cut Highly Likely
A December cut for interest rates is currently viewed as highly probable by fixed income markets. that decision would come on 18 December at the conclusion of the next FOMC meeting. That would be the final scheduled FOMC decision of 2024. However, after that as we look to 2025, we may only see two cuts on current fixed income estimates compared to three or four cuts in 2024 (four if the FOMC cuts in December).
Prospects For Interest Rates In 2025
As we look to 2025, the clear consensus is that interest rates move lower, but the question is how rapid and deep any cuts are. In late September and into October, market expectations implied that short-term interest rates could fall perhaps as low as 3% by December 2025 in a more dovish scenario. However, now that path, though of course possible, seems unlikely and rates are expected to remain closer to 4%.
Now, of course, the FOMC’s own projections from September 2024, do call for a median short-term interest rate in December 2025 of 3.4%. However, those forecasts will be updated on December 18 as the FOMC meets, and the expectation of markets based on recent economic news is that rate estimates from FOMC policymakers will be revised higher than those prior projections that are now a little stale. The FOMC only updates its projections at every other meeting to set interest rates.
Economic Data
In recent months, the job market has proved a little more robust than many expected, despite unemployment edging up. The unemployment report for November 2024 signaled 4.2% unemployment,. That’s up from 3.5% the year prior, but does not suggest a collapsing jobs market, which was a potential fear. Nonfarm payrolls rose by a relatively encouraging 227,000 for November. The latest annualized estimate of Q3 economic growth is a relatively healthy 2.8%.
Inflation, though down from elevated levels, remains closer to 3% than 2% on most metrics. 2% annual inflation is the FOMC’s goal. November’s CPI Inflation report, saw a step up in monthly inflation to 0.3% with core annual inflation at 2.7% or 3.3% with food and energy price trends removed. Producer prices for November have nudged up too. Of course, these recent releases could be subject to revision with future reports and the FOMC does generally prefer to look at overall trends rather than individual months of data.
Still, in the context of a jobs market that appears relatively robust as of November and an economy that seems to be showing healthy grow in Q3, markets are suggesting that the FOMC may be tempted to keep a closer eye on inflation with a more moderate decline in interest rates over the course of 2025. That said, economic news has the potential to change relatively rapidly.
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