CICC: Against the backdrop of a strong economy, the Federal Reserve may enter a "slow lane" of interest rate cuts.

CICC released a research report stating that the Federal Reserve will continue to cut interest rates, but the pace of cuts will slow down, transitioning from cutting rates at each meeting to cutting rates once every quarter, until the policy rate is lowered to between 3.75% and 4%. This level is about 150 basis points higher than the neutral rate before the pandemic, indicating that US rates will remain high for a longer period of time, and low rates are not the hallmark of this era. Event: Fed Chairman Powell stated in a speech on November 4 that the current US economy is performing well and did not signal an urgent need to cut rates. This stance has garnered widespread attention from investors and has been interpreted as hawkish. Consequently, the market has increased the bet that the Fed will maintain rates unchanged at the December meeting, with a probability of 38%, up from 14% a month ago. Powell's statement also led to a continuous seven-week increase in the US dollar, with the 10-year Treasury yield touching 4.5%, causing US stocks to fall from their highs. Key points from CICC's viewpoint: Powell pointed out that "the US economy has not shown any signal that necessitates a rush to lower interest rates. The improved economic conditions enable us to make decisions prudently." He also mentioned the uncertainty regarding the level of the neutral rate, stating that, "as the central bank approaches a reasonable range for the neutral level, we may need to slow down our pace in order to increase our chances of making the right decisions." The bank believes that Powell wishes to convey a signal to the market that the Fed intends to slow down rate cuts in the backdrop of a strong economy. After the November FOMC meeting, Powell expressed a viewpoint, indicating a more hawkish stance due to marginal changes on several fronts. Firstly, the latest CPI and PPI inflation data for October did not decline further, indicating that although inflation is still slowing down, the path is winding. Secondly, the continuous improvement in initial jobless claims data in November suggests that previous weakness in non-farm payrolls was mainly due to the impact of hurricanes and strikes, as the overall labor market remains robust. Thirdly, the October retail sales data showed a month-on-month increase of 0.4%, slightly exceeding the market's expectation of 0.3%. Additionally, the growth rate for this data in September was revised significantly upward from 0.4% to 0.8%, indicating that consumer demand remains strong. Considering these factors, the bank believes that Powell intends to signal that the Fed needs to consider slowing down the pace of rate cuts. Although there are still weeks to go until the next Fed meeting, the bank believes that Powell's statements provide a certain forward-looking guidance, suggesting that policymakers have begun to consider adjusting the dot plot. With increasing uncertainty in the downward inflation path, stable employment trends, and continued positive economic data, the Fed's confidence in successfully avoiding a recession has likely been further reinforced compared to the September rate meeting. Therefore, policymakers are not willing to be "too hasty" and wish to gradually approach the terminal rate. Considering that the new dot plot will be released at the December meeting, the bank believes that Powell's comments at this time are more about "precautionary measures" for the market, laying the groundwork for the possibility that the Fed may not continue to cut rates at every meeting next year, and the terminal rate may not be as low as previously estimated in September. The bank predicts that the number of rate cuts in 2025 shown in the new dot plot will decrease from 4 times to 2 times, corresponding to a terminal rate of 3.75%-4.0%. In terms of pace, the Fed's rate cuts will also enter the "slow lane". The bank's previous judgment was to cut rates by 25 basis points in December this year, followed by 25 basis point cuts in the first and second quarters of 2025, and then stop cutting rates. The bank maintains this judgment, indicating that the pace of rate cuts will slow down after 2025. Why continue cutting rates? Firstly, because there are no signs of inflation rebounding yet. According to the October CPI report, inflation has not declined further mainly due to a rebound in used car prices, while rental prices have remained sticky. The former seems more like a short-term fluctuation, as the leading indicator, the Manheim used car index, shows that the latest transaction prices are turning downwards again. The stickiness of the latter was within the bank's expectations, as the bank had previously reported that rental inflation in the coming months may remain at levels of 0.3%-0.4%. Furthermore, one of the Fed's most watched indicators non-housing core service prices (supercore) showed a month-on-month growth rate slowing down to 0.3%, indicating that major service prices are also relatively moderate. The bank believes that these data do not alter the trajectory of the US inflation slowdown, and there is still significant uncertainty regarding when Trump's tariff and tax policies will be implemented; therefore, the Fed will not abandon its rate cut plans based on expectations. Secondly, the recent "Trump trade" has shown characteristics of a strong dollar, high rates, and weak commodities, which may actually help suppress inflation. Since the end of the US presidential election, the market has been trading intensively on the potential impact of Trump's policies, with the most prominent being the strengthening of the US dollar exchange rate and the rise in US bond yields. However, a rise in the domestic currency's exchange rate is favorable for alleviating import inflation, while higher interest rates help suppress demand, preventing the economy from overheating. In addition, the market is concerned that Trump's imposition of tariffs will hinder the global economic recovery, which will suppress demand for commodities and put downward pressure on their prices. In the past few weeks, prices of commodities such as oil and copper have all seen varying degrees of decline, which also helps reduce short-term inflation risks.