Bankers Weigh in on ‘Time Has Come’ Rate Cut

SAN DIEGO COUNTY – When Federal Reserve Chairman Jerome Powell uttered the words, “The time has come for policy to adjust,” at an annual gathering of the Fed board in Jackson Hole, Wyoming on Aug. 23, it was a bright, flashing sign that the central bank plans on lowering the benchmark rate, which has stayed at 5.4% since July 2023.

Although a rate cut does finally seem imminent, the size and rate of cuts – and even when they will actually happen – will depend on “incoming data, the evolving outlook, and the balance of risks,” Powell stated.

Bankers locally have mixed views on the dependability of the Fed chair’s remarks.
“To be fair, I haven’t felt confident in predicting any of the Fed’s rate decisions over the past few years,” said PNC Bank Regional President and Head of Corporate Banking Alan Prohaska. “That said, when the Fed Chair says, ‘The time has come for policy to adjust,’ people take it at face value.”

Prohaska pointed out that the derivatives market, according to CME Fed Watch as of last week, is assuming a 59% probability that the Fed will drop rates by 25 basis points in this month.

“There is a lot of compelling data that Fed is digesting: significant reduction in jobs created during 2024 and cooling run-rate inflation numbers,” he added. “The Fed’s biggest issue will be that if rates are reduced in September and then economic data strengthens and inflation ticks back up, it won’t be able to reverse the decision. So, Chairman Powell has to be completely convinced that rate reduction is needed now.”

Tim Bruckner, chief banking officer of regional banking for Western Alliance Bank, is more certain of a rate cut.

“Inflation is under control and the Fed has been thoughtful in communication and signaling. We fully expect a rate cut at the upcoming meeting,” he said.

Banner Bank Senior Vice President and Southern California Commercial Banking Division Director Steve Espino is taking the long view on rate cuts that the market and industry sources, such as Moody’s, that are expecting a rate reduction as early as this month, and possibly more actions over the next 24 months.

“The question is: What degree will the Fed continue additional reductions? And the general consensus from various trusted industry sources is rates are likely to continue gradually trending down through the end of 2025,” Espino said.

Boon for Banks, Businesses

No matter what the size, rate or duration of any lowering of the benchmark rate, businesses will likely see a boost in economic activity, which will in turn boost banking, Bruckner said.

“Commercial banking is at its best when businesses in our community are healthy and profitable,” he added. “Lower rates are great for our clients as they result in lower operating costs, allowing the business to spend more on things critical to business operations versus paying interest. Lower rates free up money and allow businesses to use the capital to expand or acquire, address staffing shortfalls or increase capital spending for their plant or equipment.”

Banks expect loan demand to increase with a rate cut, Prohaska said, which will be “quite beneficial” to banks in general.

“It should spur on M&A activity, and maybe help re-open the IPO markets,” he said. “The question is how far rates have to come down before it begins to positively impact these categories – is it 25 bps or 125bps?”

For net borrowers, a rate cut will “immediately lower their borrowing cost,” Prohaska added. “It will also motivate them to borrow money to execute on strategic initiatives – large capital projects that could improve efficiencies, enhance customer experiences or M&A activity to help grow and gain market share.”

Espino highlighted that rate reductions historically bring about more lending activity by businesses that have been in “a holding pattern” on decisions regarding capital expenditures.

“Also, a declining rate environment typically kickstarts refinancing activity of real estate moving from variable to fixed rates,” he said. “Industries that are in need of fixed assets to grow or remain competitive will benefit from lower fixed rates as will businesses who want to refinance their real estate.”

Sticking the Landing?

Since March 2022, when the Fed began hiking the benchmark rate to curb soaring inflation in the post-COVID economy, the question on economists’ and business leaders’ minds has been whether higher lending rates would end in a recession or a so-called “soft landing” that tames inflation without the pain of mass layoffs.

“I cannot comment on a soft landing – that has been the hot topic for 2 years and we won’t know until we get through it,” stated Prohaska, who pointed out that unemployment is currently at 4.3%, within the Fed’s “healthy range” of between 4% and 6%.

“Unfortunately, that means unemployment could still increase a bit further and remain in a healthy/reasonable range,” he added.

Espino pointed out that a soft landing is largely dependent on consumers.
“We have the same optics as many other businesses and industries,” he said, “which is that consumer spending comprises a very large percentage of GDP and a soft landing will only be accomplished if the reduction in rates stay ahead of negative effects on consumer spending.”

Bruckner is more optimistic, stating that the Fed’s timing is “very good” and that Western Alliance Bank doesn’t see any specific area in the economy where rate cuts won’t have “a favorable impact” on employment.

“As a country, we are managing through with very low unemployment, and we expect that this will continue with a soft landing being the most likely outcome,” he said.

“It is important to remember that inflation coming down and the Fed’s ability to decrease rates both signal the end of the easing and tightening cycle resulting from the COVID pandemic,” he continued. “As we reflect on the challenges and loss of the past four years, we can also reflect on what we have gained as a community and country in our ability to work together, stand together and address what seemed insurmountable at the time. We should have a great deal of confidence in our people, our community and our country in addressing whatever challenges are in front of us.”