Why the Federal Reserve Lowered Interest Rates

For the first time this year the Federal Reserve System (Fed) has lowered its benchmark interest rate. It was a modest reduction of only 0.25 percentage points that took place at the Fed’s meeting September 17. The benchmark rate is not set as a specific interest rate, but as a range. Since January, 2025 the benchmark rate has been set to float between 4.25% and 4.50%. This latest reduction resets that range to between 4.00% and 4.25%

It was a nearly unanimous decision. The only dissension came from Stephen Miran, a recent Trump appointee. Mr. Miran’s objection was not that the Fed was lowering interest rates, but that the reduction was too small. That position mirrors that of the president, who wanted a larger reduction.

Recently, there has been a lot of wrangling between President Trump and Fed Chairman Jerome Powell regarding interest rates. The president has been demanding a substantial interest rate decrease, and Mr. Powell has been resisting that move.

The Federal Reserve System’s mandate is to accomplish and maintain two conflicting economic goals. One is to promote economic growth and full employment. The other is to keep inflation down to no more than 2.0%. It is because of this Fed’s dual role that Mr. Powell has been reluctant to lower interest rates.

PROMOTING GROWTH AND FULL EMPLOYMENT

If this were the only mandate of the Federal Reserve System, a substantial reduction in interest rates would have been in order months ago. The slow Gross Domestic Product and the weak labor market that we have been experiencing are positive proof that our economy has been slowing down. No one is claiming that we are in immediate danger of a recession, but there is no denying that we need the boost that lowering interest rates is likely to provide.

KEEPING INFLATION DOWN TO NO MORE THAN 2.00%

This second mandate of the Fed has been quite elusive over the last 12 months or so. The July and August inflation Rates have been 2.7% and2.9%, respectively. This is far from the desired 2.0% rate. There does not appear to be any danger of a runaway inflation, but at the current rate, people are still struggling with higher prices for all vital goods and services. Reducing interest rates has a tendency to favor higher inflation rates.

Given these economic conditions, the prudent course for the Fed was to execute a minor reduction now and watch the results.

Whenever there is an event like the one September 17, the result is that it will benefit some sectors of the economy and harm others. Those who have variable-rate loans or are contemplating new loans will clearly benefit. Those who have or plan to open savings accounts will be harmed. People invested in the stock market will benefit from the likely exodus from low-yield savings accounts and CDs to a greater position in the stock market.

However, we are not likely to see a substantial move in either direction because most of the changes that would be generated by this interest rate reduction have been factored in already. Most people who experienced CD maturity in the last two months are well aware of a significant reduction in yields. Current and prospective investors in the stock market have seen a modest but steady increase in the value of their holdings during the last few months.

The effect on loan interest rates will very depending on the type of loan. Long term loans, like 30-year mortgages do not have a direct connection to the Fed’s interest rates. Mortgage rates are influenced more by other factors, like the U. S. Treasury 10-year notes. Short term loans, like auto loans and credit card balances will likely receive some minor relief.

It may not be over. Given President Trump’s desire for lower rates and the fact that the Fed has broken the ice, it is likely that more reductions are forthcoming later this year.