The first thing they teach you at economist school is that you can either predict where an indicator is going, or you can predict when it will change, but you cannot do both and still be right. As we are deep into the season of predictions there are plenty of examples of that around.
In connection with the Federal Open Market Committee meeting this week, where the Fed cut interest rate with another 0.25% to 4.25-4.5%, they also released the dot-plot which is a loose indication of when the members see the next rate cut happening.
With the mixed economic bag that was 2024, inflation does not seem quite on track yet, so the dot-plot was more tempered than the one from September.
Consumer prices are moving in the right direction just not as fast as hoped, which then puts a brake on the cutting board.
The brake is both on when and where. There is a general sense that the neutral interest rate level—the level at which the economy is neither impeded nor boosted—isn’t as low as it was before the pandemic. In other words, the soft landing is coming in slower at a higher ground.
Also, for all of our complex predictive reasoning, we often tend to get ahead of ourselves. When things go in the right direction, we tend to factor the endpoint into our expectations much faster than it actually comes about.
There is a classic example of that, that FT’s Alphaville blog likes to bring up this time of year. It plots the futures markets’ expectations of the Fed rate against the actual Fed rate, and it is the graph equivalent of are we there yet? At any point in time since 2000, the futures markets have thought the rate would go where it has gone much faster than it has actually gotten there. This is especially true after the GFC in 2008.
And it makes sense. Humans, particularly those acting in the financial markets, do not like uncertainty and will fight tooth, nail, and calculator to get solid pointers on the direction as soon as possible. That is what risk measurement and management is all about.
With that being said, take a deep breath, exhale, and enjoy the holidays!
Regitze Ladekarl, FRM, is FRG’s Director of Company Intelligence. She has 25-plus years of experience where finance meets technology.
This article is part of the FRG Risk Report, published weekly on the FRG blog. To read other entries of the Risk Report, visit frgrisk.com/category/risk-report/.