The triple game behind the Federal Reserve's consecutive interest rate cuts

A rate decision passed by a 9-3 vote illustrates the intense tug-of-war within the Federal Reserve between persistent inflation and employment risks, with the policy balance tipping again toward a precautionary rate cut amid subtle data changes.

The Federal Reserve, with a 9-3 approval, decided to cut the federal funds rate target range by 25 basis points to 3.50%-3.75%. This is the third consecutive rate cut since September this year.

Alongside the rate decision, an important balance sheet operation was announced: the Fed will begin purchasing $40 billion in Treasury securities over a 30-day period starting December 12 to maintain ample reserve supply.

1. Core of the decision: proactive rate cut and subtle wording adjustments

● The Fed’s policy statement made nuanced but crucial changes in describing the economic situation. It noted that “economic activity is expanding at a moderate pace,” while also acknowledging that “job growth has slowed this year, and the unemployment rate has risen somewhat as of September.”

Compared to previous statements, the description of the unemployment rate as “relatively low” was removed, reflecting actual labor market changes.

● Regarding inflation, the Fed admitted that “inflation has increased since earlier this year and remains elevated.” This phrasing maintains previous vigilance over inflation pressures, aligning with the core inflation rate of 2.8% in September.

● On the future policy path, the statement added new guidance, indicating that in assessing the “magnitude and timing” of further adjustments, the Fed will carefully evaluate the latest data, economic outlook changes, and risk balance. This wording change suggests increased flexibility in subsequent policy moves.

2. Internal debates: policy disagreements behind the 9-3 vote

● The voting results reveal clear divisions. Nine members supported a 25 basis point rate cut, while three opposed.

● The dissenters included Governor Stephen Milam, who advocated for a larger cut of 50 basis points. Chicago Fed President Austin Goolsby and Kansas City Fed President Jeffrey Schmid opposed any rate cut, preferring to keep rates unchanged.

● This is the first time since 2019 that three officials voted against the majority at the same meeting. Such disagreements highlight differing assessments of economic risks within the Fed: one side is more concerned about a weakening labor market, while the other worries about stubborn inflation pressures.

3. Dot plot analysis: rate path projections for 2026-2027

According to the latest dot plot, Fed officials’ expectations for the 2026 rate path show notable divergence.

● The dot plot indicates that out of 19 FOMC members, 4 believe rates should stay in the 3.50%-3.75% range, 4 support a 25 basis point cut, 4 favor a 50 basis point cut. Additionally, 3 officials see rates dropping below 3%, while another 3 even consider a 25 basis point hike.

● Despite disagreements, the median forecast shows officials expect to cut rates by 25 basis points in both 2026 and 2027. This implies that by the end of 2027, rates could fall to the 3.00%-3.25% range from current levels.

4. Technical balance sheet expansion: substance of the $40 billion bond purchase plan

● Besides the rate cut, the Fed announced an important balance sheet operation. The committee judged that “reserve balances have fallen to adequate levels,” and decided to initiate purchases of short-term U.S. Treasury securities.

● The initial purchase size is set at $40 billion, with a possibility of maintaining higher levels in the coming months to ease monetary market pressures. Powell emphasized at the press conference that such operations are “purely aimed at maintaining adequate reserve supplies,” unrelated to monetary policy stance.

● This operation marks a significant adjustment in the Fed’s monetary policy framework. Just two weeks ago, the Fed ended its three-year QT( policy, reducing its balance sheet by letting bonds mature without reinvestment.

5. Economic outlook: upward revision of growth expectations and downward revision of inflation forecasts

● On economic projections, Fed officials are more optimistic about 2026 growth and slightly lower their inflation forecasts.

● The latest projections show the median GDP growth rate for 2026 has been raised from 1.8% in September to 2.3%, reflecting increased confidence in economic resilience.

● Regarding inflation, the median PCE inflation rate for personal consumption expenditures at year-end 2026 was lowered from 2.6% in September to 2.4%, but remains above the 2% long-term target. This adjustment indicates expectations for gradual inflation decline but acknowledges that the process may be slow.

6. Policy context: complex data environment and external pressures

● The decision comes amid a complex economic data environment and external pressures. The unemployment rate has risen from 4.1% in June to 4.4% in September, while inflation remains high at 2.8%.

● The government shutdown further complicates policy outlook, causing delays in key economic data releases. This data incompleteness increases the difficulty of Fed decision-making.

● External political pressures are also mounting. President Trump has indicated he will decide who will succeed Powell as Fed chair after his term ends in May 2026, hinting at an announcement early next year. The White House has previously criticized the Fed for not cutting rates fast enough, raising concerns about the independence of the central bank.

7. Market impact: from expectations management to actual implementation

● The Fed’s combination of proactive rate cuts and technical balance sheet expansion will have multiple effects on markets. The rate cut itself was widely anticipated, but internal dissent exceeded some investors’ expectations.

● Regarding balance sheet operations, the Fed plans to maintain relatively high purchase levels initially, then adjust based on seasonal needs. Powell estimates that after the April tax peak in 2026, monthly bond purchases may fall to between $20 billion and $25 billion.

● This arrangement reflects lessons learned from market turbulence during the 2019 repurchase market crisis. At that time, prolonged QT caused sharp volatility in short-term rates, forcing emergency intervention by the Fed.

Following the decision, U.S. stock indexes experienced sharp intraday swings. Markets are digesting the dual signals of uncertain rate paths and balance sheet expansion.

The deep disagreements revealed in the dot plot suggest that each future step by the Fed may be accompanied by intense internal debate. As the April 2026 tax season approaches, monthly bond purchases could decline from $40 billion to $20-25 billion, but this “technical balance sheet expansion” has already injected liquidity into the market in substance.

NY Fed President Williams admitted that judging whether markets have “ample reserves” is “an imprecise science.” At this crossroads, every move by the Fed resembles cautious navigation through uncharted waters.

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