Latest / The Federal Reserve Podcast with Fexingo: Interest Rates, FOMC Meetings, and Monetary Policy / What the Fed's New Dot Plot Says About Rate Cuts
Transcript
- Lucas: So the FOMC meeting this week — Kevin Warsh's first as chair — and the big story out of it isn't the rate decision itself, which was a hold at 3.63 percent, as expected. It's the dot plot. Luna: Right, the dots shifted. How much? Lucas: Significantly. The median dot for end of 2026 moved to one cut — just one, 25 basis points. Back in March the median was two cuts. So the committee is signaling a much shallower easing cycle than they were projecting just three months ago. Luna: And that's with core CPI still at 3.36 percent on the latest reading. Makes sense they'd be cautious. Lucas: Exactly. The inflation data isn't giving them cover. The May CPI print came in at 334.0 on the index — up from 332.4 in April. Core PCE, which is the Fed's preferred gauge, is at 129.6, still above target. So the hawks have ammunition. Luna: But Warsh is seen as a hawk himself. Did his presence tilt the dots? Lucas: I think so. Look at the distribution: four members now see no cuts at all in 2026. That's up from two in March. And the long-run dot — the so-called neutral rate — crept up to 2.8 percent from 2.6. That's a subtle but important shift. It suggests the committee thinks the economy can run with higher rates without stalling. Luna: And the market reaction? S&P 500 at 7,501, up 0.9 percent on the week. Not exactly panicking. Lucas: No, equities took it in stride. The S&P is up 2.4 percent over five days, tech leading. But the bond market is more skeptical. The 10-year yield is at 4.45 percent, down slightly on the week. The 2-year is at 3.66. The curve is still inverted, but less so. Luna: The market is pricing in maybe one cut, but the dots are saying one cut too. That's rare alignment. Lucas: It is. Usually the dots and the market are at odds. But here, both are converging. The question is: does the Fed actually deliver that cut? Or does inflation force them to hold all year? Luna: Let's talk about the internal divide. How many hawks versus doves on the committee now? Lucas: Well, the dot plot gives us the numerical breakdown. Of the 19 participants, four see no cuts, seven see one cut, six see two cuts, and two see three or more. So the median is one, but there's a wide range. The hawks — the zero-cut camp — are a vocal minority. But under Warsh, they may have more sway. Luna: What about the doves? They're still there, arguing the lagged effects of tightening will hit later this year. Lucas: Right. The dovish argument is that rental inflation is cooling, wage growth is moderating, and the full impact of the 500-plus basis points of hikes hasn't fully passed through. But the data hasn't cooperated. The jobs market remains tight — Nevada job growth, for example, has been hot, and that's a bellwether for the service sector. Luna: So Warsh's first meeting was a hawkish signal. Is that the new normal for his tenure? Lucas: Probably. He's on record saying the Fed should be 'humble' about the neutral rate. His academic work suggests it's higher than previously thought. So the dots moving up aligns with his worldview. But he also has to manage consensus. The statement this week was a near-unanimous decision — no dissents. Luna: No dissents? That's surprising given the range of views. Lucas: It is. But Warsh is skilled at building bridges. He met with each FOMC member individually before the meeting, according to the post-meeting presser. That probably smoothed things over. The dots show disagreement, but the vote was unified. Luna: So what does this mean for the rest of 2026? One cut — likely in the second half, if at all? Lucas: That's the base case. September or December. The September meeting has a press conference, so that's a natural spot. But it's conditional on inflation continuing to drift down. If core PCE stays above 2.5 percent, they'll hold. Luna: Speaking of holding — if walking through the economy with us has made something click, a couple of dollars a month is genuinely what keeps these going. Buy me a coffee dot com slash fexingo, if you've gotten something out of them. Lucas: Yeah, it really does help. And it keeps the show ad-free, so we can drill into the dots without interruption. Appreciate everyone who chips in. Luna: Alright, back to the dots. One other thing I noticed: the 2027 dots also shifted higher. The median for end of 2027 is now at 2.75 percent, up from 2.5. So the committee sees rates staying higher for longer. Lucas: That's a key point. The long-run rate is now 2.8 percent. That means the Fed thinks the economy can sustain a higher policy rate without causing a recession. That's a structural shift in thinking — maybe a permanent one. Luna: And if that's the case, then the neutral rate debate is essentially over. The new neutral is higher. Lucas: Not everyone agrees, but the dots suggest the committee is converging on that view. The implications for asset prices are significant. Higher neutral rates mean higher discount rates, which pressure valuations, especially for growth stocks. Luna: But the S&P is at all-time highs. So either the market is ignoring the dots, or it believes the Fed will be forced to cut more than they're projecting. Lucas: I think the market is pricing in a softer landing — that inflation will come down without a recession, and the Fed will cut maybe twice by end of 2027. The dots say one, but the market is skeptical. We'll see who's right. Luna: What about the international side? The Bank of England just held at 3.75 percent. The ECB is on a different path. Does that affect the Fed's thinking? Lucas: Not directly. The Fed is domestically focused. But global disinflation helps. If Europe and the UK are slowing, that reduces demand pressures globally, which feeds into lower commodity prices. The 10-year breakeven inflation rate is at 2.25 percent, down slightly. That's consistent with stable inflation expectations. Luna: So the bottom line: one cut possible, but not guaranteed. The dots say hold, but the data could change the story. Lucas: Exactly. And Warsh's first meeting set a tone of cautious hawkishness. But he's pragmatic. If the economy weakens, he'll pivot. The dots are a forecast, not a promise. Luna: Good reminder. Next up, we'll look at the housing market — because that's one area where the Fed's higher rates are really biting. Lucas: Yeah, mortgage rates are still above 7 percent. That's a whole other conversation.