Fed holds interest rates steady, but cut expected soon

The Federal Reserve maintained its benchmark interest rate on Wednesday, keeping borrowing costs at their highest level in more than two decades despite a prolonged cooldown of inflation. An interest rate cut is widely expected in the coming months.

The Fed issued its latest interest rate decision after a months-long stretch of data has established the key conditions for a rate cut: falling inflation and slowing job gains.

Still, economists expected the Fed to leave interest rates unchanged on Wednesday. The move offered the central bank time to ensure current trends hold ahead of its next meeting in September.

Speaking at a press conference in Washington, D.C., on Wednesday, Fed Chair Jerome Powell said the central bank may reduce interest rate cuts in September, depending on economic performance over the preceding weeks.

"We’ve made no decisions about future meetings and that includes the September meeting," Powell said. "We’re getting closer to the point at which we’ll reduce our policy rate, but we’re not quite at that point yet."

The chances of an interest rate cut in September stand at more than 85%, according to the CME FedWatch Tool, a measure of market sentiment. The same tool showed the odds of a rate cut on Wednesday at a meager 5%.

The economy appears to be hurtling toward interest rate cuts later this year. Such an outcome would deliver long-sought loan relief for households and businesses saddled with expensive debt.

Price increases have slowed significantly from a peak of more than 9%, though inflation remains a percentage point higher than the Fed's target rate of 2%. An outright drop in prices in June compared to the month prior marked a major sign of progress in slowing inflation.

"Inflation has eased over the past year but remains somewhat elevated," the Federal Open Market Committee, the policymaking body at the Fed, said in a statement on Wednesday. "The Committee does not expect it will be appropriate to reduce the target range until it has gained greater confidence that inflation is moving sustainably toward 2%."

The labor market has continued to grow but its breakneck pace has cooled. The unemployment rate has ticked up this year from 3.7% to 4.1%.

The Fed is guided by a dual mandate to keep inflation under control and the labor market strong. The monthslong stretch of good news for inflation alongside bad news for unemployment has prompted the Fed to give additional consideration to its goal of keeping Americans on the job, Fed Chair Jerome Powell said last month.

"For a long time, since inflation arrived, it's been right to mainly focus on inflation. But now that inflation has come down and the labor market has indeed cooled off, we're going to be looking at both mandates. They're in much better balance," Powell said at a meeting of The Economic Club of Washington, D.C.

"That means that if we were to see an unexpected weakening in the labor market, then that might also be a reason for reaction by us," Powell added.

However, robust economic data released last week may complicate the path toward a rate cut.

The U.S. economy grew much faster than expected over three months ending in June, accelerating from the previous quarter and defying concerns about a possible slowdown, according to data from the U.S. Bureau of Economic Analysis.

If the Fed cuts interest rates as the economy is heating up, the central bank risks rekindling rapid price increases.

After the economic data came out last Thursday, the odds of a September interest rate cut fell to about 80%. The dip in sentiment proved temporary, however. The odds have risen seven percentage points since then.