With inflation approaching the Federal Reserve's 2% objective, officials are addressing - and in some cases, stoking - expectations that they would make a significant policy move and drop interest rates next year, maybe as early as April.

This would lower borrowing rates across the economy, making mortgages, auto loans, and business loans more affordable. Stock prices may rise as well, albeit they have already risen in anticipation of cutbacks, potentially restricting any additional rise.

(Photo : by Chip Somodevilla/Getty Images))
With inflation approaching the Federal Reserve's 2% objective, officials are addressing – and in some cases, stoking – expectations that they would make a significant policy move and drop interest rates next year, maybe as early as April.

Fed Chair Jerome Powell, on the other hand, has recently minimized the prospect of rate cuts. With the Fed expected to leave its main short-term rate steady when it meets this week, Powell hasn't yet suggested that the Fed is done raising interest rates. The Fed chair recently warned at Spelman College in Atlanta that "it would be premature to conclude with confidence" that the Fed has increased its benchmark rate high enough to effectively combat inflation.

However, the Fed's two-day meeting, which concludes Wednesday, will be the third time in a row that its policymakers have kept their main rate constant, giving weight to the widely held belief that rate rises are finished.

After all, the economy is heading in the right direction: when the government releases the November inflation report on Tuesday, it's expected to show that annual consumer price increases slowed to 3.1%, according to a FactSet survey of economists, down sharply from a peak of 9.1% in June 2022.

Furthermore, job postings have decreased, indicating that businesses are less anxious to employ and are less under pressure to boost salaries dramatically, which might exacerbate inflation. Consumers continue to spend, although more slowly, and the economy continues to grow.

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Soft Landing Anticipation Amidst Unprecedented Inflation Decline

Such developments point to a "soft landing," in which inflation meets the Fed's 2% objective without triggering a recession. Analysts are pleased by what they perceive to be an unusually seamless shift to reduced inflation.

That brighter view indicates a mental transformation. Many analysts warned last year that combating inflation would necessitate a severe recession and substantial unemployment. Indeed, declining inflation without a corresponding recession or job losses is "historically unprecedented," according to Goldman Sachs researchers in a recent note.

In an interview last month, Austan Goolsbee, president of the Federal Reserve Bank of Chicago, stated that the United States is on course for the fastest yearly decline in inflation on record this year. If this is the case, Goolsbee believes it will result in a "bigger soft landing than conventional wisdom believes has ever been possible."

However, a gentle landing is far from guaranteed. If, for example, the Fed misjudged and held interest rates too high for too long, the economy may finally derail and enter a recession.

The timing of any interest rate decreases will be determined by the state of the economy. A recession, or the possibility of one, would almost certainly drive the Fed to lower interest rates more frequently and early.

Nonetheless, the November jobs data revealed that businesses are still adding positions at a strong clip, and the unemployment rate fell to 3.7% from 3.9%. Such data revealed that the greatest expected recession in decades is not on the horizon. Since then, investors have shifted their expectations for the first Fed rate decrease from March to May.

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