The Fed searches for neutral amid a flurry of conflicting data

Monetary policy is once again the market’s main throughline. With inflation easing only slowly and cracks appearing in the labor market, investors are looking to the Fed for clarity on what comes next.

The challenge, however, lies in assessing data pulling policymakers in opposite directions.

A divided outlook takes shape

At the heart of the debate is the Fed’s elusive neutral rate, which refers to the level where policy neither boosts nor slows growth. After six rate cuts in the past two years, the benchmark rate now sits at 3.5% to 3.75%, which is a range many officials say is close to neutral.

But close isn’t the same as consensus, and Fed officials continue signaling differences of opinion:

• Chair Jerome Powell and Vice chair Philip Jefferson say policy may be loosely neutral, arguing the Fed is well-positioned to wait and let incoming data guide their next move.
• St. Louis Fed president Alberto Musalem believes additional cuts risk reigniting inflation.
• Governor Chris Waller and San Francisco president Mary Daly warn that labor-market weakness could worsen if policy remains too restrictive.

Markets reflect the uncertainty. According to the CME Group’s FedWatch tool, investors currently see just under 20% odds of a rate cut next month, which is higher than a week ago but lower than a month ago.

Conditions on the ground are muddy

Official labor data still looks resilient, but private indicators are flashing caution.

Planned layoffs surged 205% last month to the highest level since 2009, led by tech and logistics firms. Refinery closures and industrial layoffs are mounting even as payroll reports lag behind.

Meanwhile, headline CPI numbers show inflation rates remaining stickier than what some unofficial trackers suggest.

It all adds up to a dual mandate that policymakers are finding increasingly difficult to balance. Inflation remains above target but job-market momentum is clearly slowing.

When central bankers are searching for neutral, markets can drift to extremes, so expect continued volatility as long as Fed policy remains this uncertain.