Episode Details

Our Global Head of Macro Strategy Matthew Hornbach and Chief U.S. Economist Michael Gapen discuss the outcome of the recent FOMC meeting, and the outlook for interest rates in 2025 and 2026.

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Matthew Hornbach: Welcome to Thoughts on the Market. I'm Matthew Hornbach, Global Head of Macro Strategy.

Michael Gapen: And I'm Michael Gapen, Morgan Stanley's Chief U.S. Economist.

Matthew Hornbach: Today we're talking about the March Federal Open Market Committee meeting and the path for rates from here.

It's Thursday, March 20th at 10am in New York.

Mike, the Fed released a new set of projections yesterday. What do these say and what did you learn from them?

Michael Gapen: Yeah, Matt, well, the Fed's forecast actually now look a lot like our outlook for the U.S. economy. So, they revised down their expectation of growth. They revised up their expectation for inflation. So, it has a bit of a stagflation, slower growth, stickier inflation outlook – which is very much what we were thinking coming into this year. The Fed also, though, highlighted high policy uncertainty. They wrote down a forecast, but I'm not all that convinced that they have a lot of confidence in how things will evolve.

So, I think for me, really, the bigger story were their updated perceptions about uncertainty and risks to the outlook. So, in December, if you remember, they told us; virtually everybody on the committee said, uncertainty around inflation is high and risk to inflation to the upside. They complemented that this week with the fact that uncertainty around growth in the labor market is high, but risk to growth is to the downside, the unemployment rate to the upside. So, you have kind of competing risks here around the Fed's dual mandate. They've got upside risk to inflation, downside risk to growth.

To me, that's kind of the really important message. It's hard to have a confidence in a forecast right now, but I think that risk assessment is really interesting.

Matthew Hornbach: And with that in mind, and given all the policy uncertainty that the Fed mentioned, what did Powell say about how the Fed should react? In other words, what is appropriate policy at this stage?

Michael Gapen: Right. Yeah, it's tricky, right? So, on one side of your mandate, you think risks to inflation are squarely to the upside and growth in labor markets to the downside. So, what do you do? And I think Powell said, I think that the logical answer, which is, well, right now you do nothing, and you wait.

But then I think what Powell said is: How we think this plays out is – tariffs may boost inflation in the short run. Which we're going to try to ignore. And if the economy does weaken and the labor market softens, we'll ease policy in order to support activity, right? So, there might be, say, symmetric risks around their dual mandate, but there's asymmetry in the policy outlook.

He said we're either going to be on hold or we're going to be cutting rates. And generally, I think that's the right thing.

Matthew Hornbach: So, Mike, what I heard from you was that the Fed was going to look through inflation in the near term, and then eventually cut. I mean, do you think they can do that?

Michael Gapen: Yeah, I think, Matt, that's a great question. My answer to that is, I think it's easier said than done. We agree that the next move from the Fed is going to be a cut, but we think that cut comes much later.

This is a very data dependent Fed. So, I think in the moment, if tariffs boost inflation now and weaken activity later, it's easy to sa