Dollar Could Bounce Back if Fed Opts for Smaller Rate Cut, Says Morgan Stanley

As the Federal Reserve prepares for its upcoming policy meeting, there's a lot of speculation about its next move on interest rates. Many financial experts anticipate a significant rate cut, which has already pushed the U.S. dollar down to its lowest levels this year. However, Morgan Stanley suggests that if the Fed decides on a smaller cut than expected, the dollar might actually experience a rebound.

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What to Expect from the Fed’s Meeting

The Federal Reserve is set to make a key decision soon on whether to cut interest rates. Currently, traders are predicting a 68% likelihood of a 50 basis point cut and a 32% chance of a more modest 25 basis point reduction. A basis point is one-hundredth of a percentage point.

Morgan Stanley’s Forecast

Morgan Stanley analysts are leaning towards a smaller rate cut. They believe the Fed will go for a 25 basis point reduction rather than the larger cut many are expecting. According to their analysis, the Fed is likely to show a total reduction of 75 basis points by the end of 2024, which is lower than the market’s current expectation of around 115-120 basis points.

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Implications for the Dollar

If the Fed opts for a smaller cut, this might actually strengthen the dollar in the short term. A smaller-than-expected cut could signal that the Fed is cautious about the pace of easing monetary policy, which could lead to an immediate boost in the dollar’s value. However, the long-term effects might be more complex. The U.S. dollar could potentially fall against major currencies, while it might appreciate against emerging market and commodity currencies.

Factors Influencing the Fed’s Decision

The Fed’s decision will be influenced by various economic indicators. Recent data shows mixed signals: while inflation has moderated somewhat, it remains persistent in certain areas, such as housing. The job market has also been less robust than anticipated, though wage growth remains strong. These factors will likely weigh heavily on the Fed’s decision-making process.

Market Reactions and Future Expectations

A smaller rate cut could also affect market expectations and investor behavior. Analysts and traders are keenly watching how the Fed will communicate its future plans. The Fed is expected to provide less specific guidance about future rate cuts, keeping decisions flexible and dependent on upcoming economic data.

Also Read: Forex Dollar Declines Following Lower-than-Expected CPI Report