The Fed cuts interest rates significantly, expanding global central banks' policy room

According to the financial news app Zhitong Finance, the Federal Reserve has taken big steps to start an interest rate cut cycle and is determined not to fall behind the curve in terms of loose policies, reshaping the policy outlook of central banks around the world. For Europe and most other developed countries, officials tend to insist that the Fed's decision will not affect their own policy trajectory. Fed Chairman Powell's statement about the good state of the U.S. economy may be comforting to them. In emerging markets, the Fed's 50 basis point rate cut has eased pressure on emerging market currencies, providing room for emerging market central banks to readjust their interest rate settings.

The Fed's 50 basis point rate cut on Wednesday exceeded the expectations of most economists, which may raise concerns among the public about rising recession risks. However, Powell stated that the Fed's patience in taking action until now has brought "dividends," and Wednesday's move is a signal that "we are committed not to fall behind the curve." Investors initially reacted with confidence, although U.S. stocks closed slightly lower.

Stefan Gerlach, Chief Economist of EFG Bank Zurich and former Deputy Governor of the Central Bank of Ireland, said, "The Fed's 50 basis point rate cut will affect the interest rate decisions of other central banks and lead market participants to conclude that the U.S. economy is slowing down, which could lead to a global economic slowdown."

Gerlach added that this may prompt the European Central Bank to consider another rate cut next month, which would be the ECB's third rate cut since June. He also said that this could put the Swiss National Bank in an "extremely uncomfortable" position as Swiss policymakers have been concerned about the strength of the Swiss franc.

Policy makers led by ECB President Lagarde are emphasizing their independence in policy making. However, they also acknowledge that U.S. monetary policy has a significant impact on the G20. Sources said last week that the ECB does not rule out the possibility of a rate cut in October, although the likelihood is low.

Fed officials expect to cut rates by a total of 100 basis points by the end of this year. This means that if the ECB cuts rates by 25 basis points in October and December respectively, it will align with the Fed in the overall scale of rate cuts this year.

A recent study by the Institute of International Finance (IIF) shows that since 2021, changes in U.S. interest rates have been the most important driver of European decisions. Marcello Estevao, Chief Economist of the IIF, said, "Even though the ECB makes decisions independently of the Fed, the interest rate differential relative to the Fed may have real economic implications for the euro area and should therefore be taken into account. Otherwise, the ECB will face risks of euro appreciation, declining exports, economic weakness, and deflationary shocks." Including emerging market central banks in the Gulf region, following the Federal Reserve, also cut interest rates by 50 basis points. The Fed's rate cut also provides room for policymakers in places like South Korea and India, although other factors such as financial stability are also taken into consideration. The Indonesian central bank even cut rates by 25 basis points on Wednesday ahead of the Fed.

However, the response of emerging markets with freely floating exchange rates may not be as pronounced. Data from Bloomberg Economics shows that although central banks in these markets have often followed the Fed in the past, the Fed's anchoring role in the current cycle has weakened. Analysts Adriana Dupita and Alex Isakov stated, "This disconnect supports our expectation that the net easing in emerging economies over the next year will be less than that of the Fed."

In Japan, the Fed's actions may have an impact on the Bank of Japan's future actions. The market generally expects the Bank of Japan to keep rates unchanged this Friday. Taro Kimura, an economist at the Japan Economic Research Institute, said that the latest forecast for October may show a warming trend in wages and prices, prompting the Bank of Japan to raise rates by 25 basis points unless the Fed's decision is seen as a warning of more serious troubles facing the global economy