In an expected move, the Federal Reserve wrapped up its final monetary policy meeting of 2024 with a 25-basis-point rate cut. However, the signals emanating from this meeting hinted at a shifting trajectory for future cuts, sending waves of uncertainty through capital markets.

The Fed's latest meeting marked its third consecutive cut since the September session, bringing the total reduction to 125 basis points over the last few months—50 in one go and 25 on the next occasion. This consistent tapering of interest rates signifies the central bank's response to evolving economic conditions. The Fed Chair Jerome Powell emphasized that despite some cooling in the labor market, the U.S. economy remains resilient, with inflation pressures easing although they still linger.

During the two-day session concluding on December 18, Powell noted that while the economy faces dual risks—resurgent inflation and a weakened labor market—the Fed is committed to a cautious policy approach to navigate potential uncertainties. Notably, the Fed has revised its economic and inflation forecasts for 2025, bumping up the median projection for U.S. GDP growth by 0.1 percentage points to 2.1%. In addition, the unemployment rate forecast for next year has been lowered.

In terms of inflation, projections for the Personal Consumption Expenditures Price Index (PCE) have been adjusted upward from a year-on-year growth rate of 2.1% in September to 2.5%, with the core PCE following suit—rising from 2.2% to 2.5%. This illustrates a growing concern regarding inflation that overshadows the optimism about economic growth.

The Fed's future economic forecasts suggest that growth will hover around potential levels. This is vital as restrictive monetary policies have been in place for several quarters, which inevitably tempers near-term economic expansion. Yet, Powell remains optimistic about sustained spending and overall economic growth, buoyed by a solid labor market and vibrant household balance sheets.

However, lingering effects from prior restrictive monetary policies are becoming more pronounced, as seen in a slowdown in economic growth after reaching a peak in the second quarter of 2024. While short-term stimuli may provide some uplift to the U.S. economy, anticipated moderate inflation coupled with robust consumer demand may bolster the market. Still, long-term headwinds including trade protectionism, a tightening labor market, and the cumulative effects of high interest rates pose considerable risks to continued U.S. economic expansion.

The immediate aftermath of the Fed's announcements saw a dramatic sell-off across all major U.S. stock indices, with repercussions spilling over into Asian stock markets. This adverse reaction highlights the market's nervousness over the Fed's inclination to decelerate the pace of rate cuts, a sentiment echoed by financial market analysts and observers.

The dot plot released post-meeting showcases that Fed officials expect the median federal funds rate to drop to 3.9% by the end of 2025, which indicates a hawkish stance compared to previous forecasts—envisioning only two rate cuts next year. This conservative estimate reinforces Powell's earlier insistence that the economy's resilience means the Fed can approach rate cuts with caution.

Despite market anticipations leaning towards a hawkish rate cut, the meeting's messaging came out significantly more hawkish than many had expected. Most notably, only ten voting members foresee two cuts in 2025, contrasting sharply with the widespread belief that the dot plot would reveal three prospective reductions. Additionally, the adjustments to inflation forecasts outpaced those for economic growth, underscoring the Fed's increasing concern about rekindled inflation.

The ambiguity expressed in Powell's comments suggests that the Fed may be entering a less clear and somewhat uncertain phase in forward guidance, a development that many market participants view unfavorably. In light of this unclear trajectory, optimism surrounding the "holiday trading" period in the U.S. stock market may stall, giving way to heightened volatility as investors grapple with the implications of the latest policy meeting.

Analysts from China's Everbright Bank noted that the market's response stemmed from the Fed's indication of a slower rate-cutting trajectory, invoking fears of a high-rate environment stifling U.S. economic growth. This tightening financial landscape has led to the sell-off of high-valuation equities.

The future course of rate cuts remains an area of intense scrutiny and debate. According to Kristina Hooper, the rapid escalation of interest rates to restrictive levels, aimed at combating swiftly rising prices, may be nearing an end. Central banks worldwide could soon declare mission accomplished in their inflation battle. Yet, many major economies are showing signs of potential slowdowns, with weak data emerging from regions like the Eurozone—where indices related to manufacturing and consumer confidence are declining.

Hooper anticipates that in 2025, a tug-of-war may unfold in the markets: while past interest rate increases will weigh down economic activities, a new cycle of rate cuts could introduce stimulative effects. The Fed’s forthcoming policy trajectory is expected to retain a degree of flexibility to adapt to shifts in economic indicators.

The dynamics of the labor market and inflation are likely to remain crucial variables influencing the Federal Reserve's future decisions. Projections suggest that the total rate cut in 2025 will be between 50 and 75 basis points, meaning two to three potential rate cuts, contingent on the economic landscape and the Fed's continuous assessments of evolving market conditions.

The next monetary policy meeting is scheduled for January 29, 2025, and it will occur shortly after a new government takes office in the U.S. Given that economic data may not exhibit significant fluctuations, it is anticipated that the Fed may hold off on further cuts at that time, potentially waiting until the March meeting for more definitive guidance.