After three years of high inflation and elevated interest rates, the U.S. economy has shown signs of strain. Now, the Federal Reserve is poised to cut interest rates on Wednesday to support economic growth, despite having sidestepped a recession that many anticipated when the Fed began aggressively raising borrowing costs in 2022.
Fed Chair Jerome Powell’s decisions will significantly impact the economy that either Kamala Harris or Donald Trump will inherit come January. Powell has signaled his intent to lower rates further to address rising unemployment, which has unsettled markets and political leaders alike.
“Rate cuts by the end of this year and into next year will help generate momentum in the economy,” said Bharat Ramamurti, a former Biden administration official now advising Harris’s campaign. However, he cautions that predicting job growth for next year remains challenging.
The unemployment rate has risen since last year, and many Americans are struggling with high prices and interest rates that have pushed homeownership out of reach. A growing number of consumers are at risk of missing credit card or auto loan payments, while high rates have slowed corporate mergers and acquisitions, potentially stifling economic activity.
Despite these pressures, the economy has managed to remain resilient. Inflation has cooled to a level where it’s no longer a primary concern, and investors are anticipating Powell may cut rates by up to half a percentage point—double the usual adjustment.
Yet, the economy's resilience raises questions about how quickly it will respond to rate cuts. “The Fed’s significant rate hikes didn’t impact the economy as expected,” noted David Wessel, director of the Hutchins Center on Fiscal and Monetary Policy. “The lack of a recession and only a modest rise in unemployment suggest the economy might be less sensitive to interest rate changes than before.”
Here’s how lower interest rates could influence five critical areas of the economy:
Housing Market
The residential real estate sector has faced significant challenges. High interest rates, coupled with low inventory and soaring prices, have made home purchases difficult, especially for first-time buyers.
“The upcoming Fed rate cuts will help, but they won’t solve all the issues in the housing market,” said Chip Hughey, managing director of fixed income at Truist.
While previous Fed rate cuts during the pandemic spurred home buying, rising rates halted this momentum, pushing average mortgage rates above 7.75%—the highest in over two decades. Existing home sales have reached generational lows, as many homeowners with low fixed rates have little incentive to sell.
However, there are signs of improvement; both new and existing home sales increased in July, suggesting that lower mortgage rates could alleviate some supply constraints and stabilize prices.
Job Market
Concerns about the job market are central to the Fed’s decision to cut rates. During peak inflation, unemployment was at a historic low, but the job market has since softened. The current unemployment rate is 4.2%, up from mid-2023 levels, and job openings have decreased.
Although monthly labor reports indicate continued job growth, it is happening at a slower pace, primarily in sectors recovering from the pandemic. Lower interest rates should eventually stimulate hiring as businesses find it easier to finance expansions and mitigate layoffs, but immediate improvements in the labor market may take time.
Consumer Credit
With rising credit card delinquency rates and increasing numbers of households only managing minimum payments, lower interest rates could offer some relief. As borrowing costs decrease, it may ease financial pressures on lower-income households, which have seen savings rates drop significantly.
Despite these challenges, consumer spending has not slowed markedly. Shifts in purchasing behavior are evident, with consumers becoming more selective. Lower interest rates could shift consumer sentiment positively, particularly for emergency purchases made on credit.
Mergers and Acquisitions
The Fed’s high-rate policy has also affected mergers and acquisitions, with North American deal activity dropping significantly compared to previous years. As borrowing costs fall, there is optimism that M&A activity may pick up, provided the economy avoids a downturn.
Investment firms anticipate a resurgence in deal-making, with banks optimistic about increased activity in the coming months.
Stock Market
Following Powell’s hints at rate cuts, major indices like the S&P 500 and Nasdaq surged, and a similar reaction is expected if the Fed announces rate reductions. Historical data suggests that stocks typically perform well following rate cuts, with average real returns of 11% in the year after such moves.
However, market volatility could increase leading up to the November presidential election as investors gauge economic conditions. While lower rates are generally viewed favorably, if they coincide with signs of economic contraction, market gains may be muted.
In summary, Powell’s impending rate cuts could create significant shifts across various sectors of the economy, but the pace and magnitude of those changes remain uncertain.
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