According to the latest market data, the probability of the Federal Reserve cutting rates by 25 basis points at the upcoming December meeting has reached 88.4%. Behind this seemingly 'set in stone' decision, there is a fierce policy divergence unfolding within the Federal Reserve, the likes of which have not been seen in recent years.

As the Federal Reserve's December interest rate decision approaches, market expectations for a rate cut continue to heat up. The probability of the Federal Reserve cutting rates by a cumulative 25 basis points by January next year is 65.4%, and the probability of a cumulative 50 basis points cut is 24.8.

1. Market expectations and rate cut probabilities

● The latest data from the Chicago Mercantile Exchange's 'Fed Watch' tool shows that the probability of the Federal Reserve cutting rates by 25 basis points at the December meeting is as high as 88.4%, while the probability of keeping rates unchanged is only 11.6%.

● This data reflects that the market almost certifies the Fed will take action this week. The interest rate futures market further predicts that by January next year, the probability of the Fed cumulatively cutting rates by 25 basis points is 68%, while the probability of maintaining rates unchanged is 8.5%.

● The Fed started this round of rate cut cycle in September 2024, after three rate cuts cumulatively lowering the federal funds rate by 100 basis points, it began to maintain rates unchanged in January 2025, continuing until mid-year this year.

Two, internal policy divergences

● In stark contrast to the market's highly consistent expectations, there are clear policy divergences within the Fed. Among the 12 voting members of the Federal Open Market Committee, 5 have expressed opposition or skepticism towards further easing of monetary policy, while 3 members of the board support a rate cut.

● Such disagreements have been quite rare in recent years' Fed meetings. Since 2019, the FOMC has not seen three or more dissenting votes in any meeting.

● Historically, it is extremely rare for multiple governors within the Federal Reserve to simultaneously oppose a rate decision. In July of this year, the Fed's Vice Chair for Supervision, Michelle Bowman, and Fed Governor Christopher Waller voted in favor of a 25 basis point rate cut.

According to U.S. media reports, this is the first time in over 30 years that two Fed governors have simultaneously expressed different opinions in votes regarding interest rate decisions.

Three, the clash of hawkish and dovish views

● Cleveland Fed President Harker represents the hawkish stance, believing that current inflation is still 'too high' and poses greater risks to the economy than a slowdown in the labor market. She emphasized that monetary policy should continue to exert pressure on inflation and pointed out that current interest rates are 'almost not restrictive', implying that further rate cuts may be premature. Harker expects U.S. inflation to only reach the Fed's 2% target one to two years after 2026 at the earliest.

● In contrast, New York Fed President Williams gave a relatively dovish speech. He stated that the market's estimate of the 'neutral interest rate' may be too high; if this judgment holds, the Fed still has room to continue cutting rates without undermining efforts to curb inflation.

● The Federal Reserve Governor Milan clearly supports a rate cut in December, stating: "Unless there are surprises, I expect we will cut rates in December." Milan pointed out that the policy stance ultimately depends on the 'voting structure' rather than the 'distribution of opinions', so even if there is resistance, a rate cut may still become the majority resolution.

Four, key challenges faced by decision-making

● Fed Chairman Powell stated in June that the Fed is fully capable of waiting, considering adjustments to the policy stance after further understanding the potential economic trajectory. However, the current economic data environment poses additional challenges for decision-making.

● Chicago Fed President Goolsbee expressed concerns about the rate cut path. He stated that due to the government shutdown leading to temporary missing official inflation data, decision-makers might not be able to timely identify price risks, making him increasingly uneasy about continuing rate cuts.

● Goolsbee emphasized that there are risks in adopting an accommodative policy in the absence of key information. This situation of data absence is relatively rare in the history of Fed decision-making, increasing the uncertainty of this meeting.

Five, economic background and policy considerations

● The Fed needs to balance multiple factors when assessing policy. On one hand, there are signs of a slowdown in U.S. economic growth. The Fed noted in its July policy statement that U.S. economic growth has 'slowed down' in the first half of this year.

● If this trend continues, it may provide a basis for future rate cuts. The meeting statement's assessment of the economic situation has also been adjusted from June's 'expanding at a steady pace' to 'economic activity growth slowed in the first half of this year.'

● On the other hand, inflationary pressures still persist. The economic forecast summary released by the Fed in June showed that its expectations for U.S. inflation and unemployment rates from 2025 to 2027 have increased. Specifically, the median forecast for this year's personal consumption expenditure price index has risen from 2.7% in March to 3%, significantly above the Fed's long-term inflation target of 2%.

Six, outlook on policy paths and market impact

● Fed Chairman Powell stated at a press conference in July that implementing a moderately restrictive monetary policy seems appropriate. He pointed out that the Fed has not yet made a decision on September's monetary policy, which depends on the employment and inflation data released before the next meeting.

● Regarding the future policy path, Powell emphasized the art of balance: if rates are cut too early, the inflation problem will not be solved; if cut too late, it could harm the job market.

● This indicates that the Fed needs to confirm that the impact of tariffs on inflation is fully reflected before implementing rate cuts. As the impact of tariff policies becomes clearer and economic and employment downward pressures increase, there is still hope for one to two rate cuts within the year.

After the decision is announced, global markets will usher in a new round of volatility. Regardless of the outcome, this game surrounding the December rate has already reflected the Fed's difficult balancing act between the persistence of inflation and the risks of economic slowdown.

Every word spoken by Powell at the press conference will be analyzed word for word, and the number of dissenting votes among FOMC voting members will serve as a thermometer to measure the intensity of this internal central bank game.

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