Tonight is the Federal Reserve decision; pausing rate cuts has become consensus, but is Powell taking a dovish approach?
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The market has fully priced in expectations that the Federal Reserve will keep rates unchanged at 3.50-3.75% at this meeting, with the focus turning to whether this will be a "dovish pause" or a "hawkish pause."
For investors, the key is whether Powell will maintain forward guidance for a rate cut and how to assess the distance between the current policy stance and the neutral rate. As the unemployment rate falls to 4.4% and economic activity remains robust, the market has postponed expectations of the first rate cut of the year to July, with the total rate cut priced at only 45 basis points for the year. Divisions within the committee remain severe, and Governor Miran is expected to cast a dissenting vote again.
Pause in rate cuts is certain, market focuses on forward guidance
According to the latest surveys by Bloomberg and Reuters, all economists surveyed unanimously expect the Federal Reserve to keep rates unchanged at this meeting, with 58% of economists expecting rates to remain unchanged throughout the first quarter. The money market is currently pricing in a rate cut of about 45 basis points before the end of the year, with the earliest 25-basis-point cut possible in July.
Goldman Sachs described this meeting as "uneventful" in its preview report, expecting no adjustments to the federal funds rate, with only minor changes to the statement and little indication of the future policy path.
Morgan Stanley explicitly expects the Fed to deliver a "dovish pause" signal—the main drivers for pausing rate cuts are the recent stabilization in the labor market and strong economic activity data, but confidence in inflation falling later this year will keep the Fed’s easing bias.
Statement language tweaks send key signals
Institutions generally expect several adjustments to the statement. Morgan Stanley expects the committee to upgrade its assessment of economic growth from "moderate" to "solid." More importantly, they expect the Fed to delete the statement about "increased downside risks to employment"—since they are choosing to pause rate cuts, this logically implies alleviated concerns over the labor market.
Barclays holds a similar view, expecting the statement to mention that "employment growth slowed last year, and the unemployment rate rose slightly," but will delete the phrase "recent indicators are consistent with these developments." Regarding inflation, although recent core PCE data has been relatively mild, since it has been distorted by the government shutdown, the statement is still expected to maintain the phrase "inflation has risen somewhat in recent months and remains elevated."
For the most critical forward guidance, the market expects the statement "in considering the extent and timing of any further adjustments to the target range" to remain, suggesting an ongoing easing bias and constituting a "dovish pause." If it reverts to "in considering any adjustments to the target range," this would signal a longer pause, constituting a "hawkish pause."
Powell’s press conference: three major areas to watch
BofA Securities notes that compared to the recent repricing of rates, Powell’s press conference could lean dovish. Analysts will focus on three main aspects:
Labor market assessment: The market will closely watch whether Powell will emphasize the drop in the unemployment rate to 4.4% in December, or downplay it as just one month’s data. Equally important, will Powell reiterate his tolerance for a slight rise in the unemployment rate? At the December press conference, Powell said that after a 75-basis-point rate cut, the policy position should "allow the labor market to stabilize or the unemployment rate to increase only one to two tenths more."
Inflation outlook: Market reaction will depend on whether Powell emphasizes the December core PCE y/y tracking data of about 3%, or the continued housing disinflation and tariff-driven inflation below expectations. Citi expects core PCE in Q4 2025 to be 2.8%, below the December SEP median forecast of 3.0%.
Neutral rate assessment: Investors should watch Powell’s comments on the neutral rate. In December, Powell said the policy rate was "within a reasonable range of estimates of the neutral rate." Any language changes on the neutral rate, or emphasis on the productivity improvement narrative, will be noteworthy.
Political pressure may become an "unsolvable issue"
According to "the new Fed news agency" Nick Timiraos, despite the Fed remaining on hold, the White House is exerting unprecedented political pressure on the Fed.
This month, the U.S. Department of Justice launched a criminal investigation into Powell. Last week, the Supreme Court held oral arguments on whether Trump has the authority to dismiss Fed Governor Cook, with several justices doubting whether the president has that power.
Analysts widely expect Powell to be asked many questions about political matters at his press conference, but he is likely to respond with "no comment," reiterating the Fed’s position to make monetary policy decisions independently from political pressure.
BofA Securities clearly stated, "More politically oriented questions are likely to take center stage at the press conference, but Chairman Powell is highly likely to avoid providing answers."
Rate cut path for this year: disagreements remain
On the rate cut path this year, there are clear institutional differences. Goldman Sachs expects two cuts of 25bps in June and September, bringing rates down to 3.00-3.25%. Barclays expects cuts in June and December. Citi expects a total of 75bps cuts in March, July, and September.
Morgan Stanley notes, of the 19 Fed officials at the December meeting, 12 expected at least one more rate cut this year, but that cut was opposed by two officials, and some who supported a cut had reservations. This means the threshold for further rate cuts in the future has risen, and the Fed leadership likely wishes to forge a stronger consensus than at last December’s meeting.
Timiraos analyzes, for a rate cut before mid-year to happen, it would almost certainly need to be accompanied by labor market deterioration, as the pace of inflation decline may not be enough to convince skeptical officials by then. In the past 18 months, there has been essentially no substantial progress on inflation.
Market impact: limited volatility as baseline
On market impact, institutions generally expect this meeting to create limited price volatility.
BofA Securities states: "Expectations for the January FOMC meeting in the U.S. rates market are rather limited. The market has almost fully priced in a hold at 3.5-3.75%." The institution expects only limited net price action apart from standard volatility after the statement and the press conference.
In the FX market, BofA notes that during FOMC meetings in this cycle that resulted in unchanged rates, EUR/USD’s performance was mostly within +/-0.2%, with the average almost 0%. "Unless there is a major surprise—which seems unlikely—this meeting may produce only limited net price action."
Notably, this meeting is expected to see at least one dissenting vote from Fed Governor Stephen Miran, who has advocated for more aggressive easing at every meeting since joining the committee last September. Institutions expect him to vote for a 25 or 50 basis point cut. This will be the fifth consecutive meeting with a dissenting vote, highlighting persistent divisions within the committee.
Additionally, Governors Bowman and Waller might also vote for a cut, as their concerns about the jobs market are higher than some other colleagues.
Timiraos points out that Waller’s voting stance will be closely watched. He is reportedly one of Trump’s considerations to replace Powell. If he votes for a rate cut, it could boost his candidacy; if he votes with the majority to hold rates steady, it may reinforce his independent credentials but could weaken his chance at the Fed chairmanship.
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