Zhongjin: The Federal Reserve cuts interest rates by 25 basis points as scheduled. The stimulus effect of this round of interest rate cuts may be weaker than in previous cycles.

CICC published a research report stating that as expected, the Federal Reserve will reduce interest rates by 25 basis points at its October meeting, but Powell's remarks clearly lean towards a "hawkish" stance, suggesting that a rate cut in December is by no means certain. The bank believes that this indicates that the view within the Federal Reserve in support of pausing rate cuts is gaining momentum. Looking ahead, although the Fed still has some room for easing, the pace of rate cuts may slow down, and overly optimistic expectations should be avoided. Additionally, the stimulative effect of this round of rate cuts may be weaker than in previous cycles, partly due to the noticeable weakening of the "refinancing effect". The Federal Reserve also announced that it will end quantitative tightening in December. The bank believes that this is more of a technical adjustment and should not be overinterpreted. Given the significant downward space still available for policy interest rates, the necessity of purchasing unconventional financial assets is not high. The key points of CICC's analysis are as follows: The Federal Reserve reduced interest rates by 25 basis points at its October meeting, in line with market expectations. There were two officials who dissented in the decision: St. Louis Fed President Bullard advocated for a 50 basis point rate cut, aligning with President Trump's calls for rate cuts; Kansas Fed Chairman George dissented in favor of keeping rates unchanged. This reflects an increasing divergence within the Federal Reserve. The monetary policy statement showed little change from September: the pace of job growth has slowed down this year, the unemployment rate has risen slightly but remains low, and inflation has risen since the beginning of the year, still at relatively high levels. What truly disrupted the market was Powell's "hawkish" stance on whether or not to cut rates in December. He pointed out at the press conference that "a further reduction in the policy rate at the December meeting is not a foregone conclusion, far from it." He further stated that while the September rate cut was due to weak labor market conditions, "the logic going forward is a different thing". He also mentioned that there were clear divisions among Fed officials on how to proceed in December. The bank believes that Powell's remarks indicate that the voices supporting a pause in rate cuts in December are gaining strength within the Federal Reserve. Looking further ahead, this trend may be based on the following considerations: Firstly, while the labor market is slowing down, it has not deteriorated significantly. Powell pointed out that initial jobless claims, ADP employment data, and other private sector indicators all show that job growth is slowing down, but there is no sign of an accelerating decline. In other words, the premise for further rate cuts is a significant deterioration in the job market, and whether this condition will be met by December remains to be seen. Secondly, inflation remains significantly higher than the Fed's target. Although the impact of tariffs on prices has not been as intense as expected, inflation levels have continued to rise in recent months. Based on the Fed's estimates, the PCE inflation rate in September may be 2.8%, an increase from the previous month's 2.7%. Moreover, the Fed's credibility in achieving its inflation target is diminishing inflation has remained above the 2% target for five consecutive years, and there is even a popular belief in the capital markets that "3% is the new 2%", reflecting rising market expectations for inflation. The bank believes that against this backdrop, maintaining a somewhat hawkish stance in decision-making is not only necessary but also a strategic choice. Looking ahead, the bank believes that although the Federal Reserve still has room for further policy easing, caution should be exercised in expectations regarding the pace of rate cuts. Following this rate cut, the federal funds rate has fallen to a range of 3.75% to 4.0%, still above the bank's estimated neutral rate level of 3.5%, indicating that overall monetary policy remains slightly tight. However, as the policy rate approaches the neutral range and inflation levels remain stubbornly high, the pace of rate cuts may slow down. One possible change could be shifting from "a rate cut at every meeting" to "a rate cut once every quarter", gradually adjusting the policy rate towards neutral or even slightly accommodative levels. Moreover, expectations for the stimulative effect of rate cuts should also be approached with caution. One channel through which rate cuts impact the economy is through the "refinancing effect" when rates fall, homeowners can refinance their mortgages to lower repayment costs, thereby increasing disposable income and stimulating consumption. However, this effect has been noticeably limited since the 2024 rate cut. One piece of evidence is that the Mortgage Bankers Association's refinancing index has not significantly increased as it did during past rate cut cycles. The main reason for this is that many homeowners locked in ultra-low rates in 2021, leading to a lack of motivation for refinancing. From a macro perspective, this implies that the stimulative effect of this round of rate cuts on the real estate market and interest-rate-sensitive consumption may be weaker than in previous cycles, and the upturn in this financial cycle may be lower than in the last two cycles. In terms of the balance sheet, the Federal Reserve announced that it will end quantitative tightening (QT) on December 1st. The reduction of $50 billion in US Treasury securities per month will cease, with the principal proceeds being reinvested; the limit on the reduction of mortgage-backed securities (MBS) of $350 billion per month will continue, but the principal proceeds will be reinvested in short-term Treasury bills. The bank believes that ending QT is more of a technical adjustment, with two main considerations behind it: to address concerns about liquidity tightening in the market and prevent a repeat of the market volatility caused by excessive reduction in 2019, and to manage the duration of assets, the Fed aims to reduce the average duration of its asset portfolio gradually shifting from long-term MBS to short-term Treasury bills. This move also reflects the Fed's intention to normalize policy, as traditional monetary policy primarily relies on open market operations rather than purchasing unconventional financial assets. Therefore, the bank expects the Fed to be reluctant to restart quantitative easing, especially given the substantial downward space for policy interest rates, as the necessity of stimulating the economy through asset purchases is not high.