In order to prevent an economic recession, a global interest rate reduction cycle has already begun. So, after the interest rate cut, will the economy stabilize?

This time it is a pre-emptive interest rate cut, and the Federal Reserve has started with a 50 basis point cut this time. The pace of the interest rate cut is so fast that it actually hopes for a soft landing for the economy.

I. Early warning of a weak US economy

After the macroeconomy has just experienced stagflation, the next link is often to enter a recession. After more than two years of interest rate hikes, the benchmark interest rate has exceeded 5%. If interest rates are not cut, it is easy to have a situation similar to 2007.

As early as last year, a set of data statistics from Goldman Sachs showed that the total loan defaults in the United States in the first five months of 2023 had already exceeded the total for 2021 and 2022. In addition, the unemployment rate in the United States has also risen from 3.4% last year to 4.2% today. This information points to the need to control the speed at which the United States enters a recession next.

II. Market conditions in pre-emptive interest rate cuts

In fact, as early as the period from 1994 to 1995, the United States also experienced a period of rising inflation. The Federal Reserve chose to raise interest rates to deal with inflation until it fell back to a normal range. On that occasion, it was a classic case of the US economy successfully achieving a soft landing.

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During that adjustment, the stock market also experienced a brief decline in 1994. If you look at the time, that adjustment lasted for nine months, with a depth of about 10%. However, after stabilizing in 1995, it began a stronger rebound. The S&P 500 rose by 34% in 1995, and Nasdaq also rose by nearly 40% for the year. If based on this, including the pre-emptive interest rate cut in 2019, these historical data tell us that if the economy can achieve a soft landing, the stock market performance is often better after stabilization.

Therefore, at the Federal Reserve's interest rate cut meeting that just passed last week, it directly corrected everyone's expectations for the market by cutting interest rates by 0.5 percentage points. It is also expected that there will be another interest rate cut in November and December of this year. The Federal Reserve's expectation control can also increase the probability of the economy achieving a soft landing this time.An economic soft landing does not mean that nothing will happen. Just looking at the unemployment rate rising from 3.4% to 4.2% is enough to see this. Contractionary policies can pull the economy out of stagflation, which will lead to some people becoming unemployed, a slowdown in production and demand, and the stock market may also experience periodic fluctuations. Therefore, the so-called soft landing is more about indicating that the future economy and capital markets can still be relatively stable and sustainable.

In this round of the monetary policy cycle, the United States has also been aggressive in raising interest rates, preferring to trigger an economic recession in order to reduce inflation. The reason why an economic recession has not occurred is that the anomalies that initially caused inflation have begun to recede. Supply chains have become unblocked, companies have responded to high prices by increasing production capacity, workers have returned to their jobs, and employee turnover has decreased.