Treasury Secretary's 150 Basis Point Rate Cut Proposal Criticized by Deutsche Bank

The U.S. Treasury Secretary's suggestion to reduce interest rates by 150 basis points has faced criticism from Deutsche Bank's rate strategy team, who argue that such a significant cut lacks model support. On August 13, the Treasury Secretary publicly stated that, according to "any model," the current Federal Reserve policy rate should be lowered by 150 to 175 basis points. However, the specific model referenced in this statement has remained unclear, leading to ongoing market speculation.

Deutsche Bank's strategy team, led by Matthew Laskin, argued in their latest research report that the Federal Reserve's semi-annual monetary policy report does not provide a basis for a substantial rate cut, let alone one of the magnitude proposed by the Treasury Secretary. The report highlighted that the current federal funds rate, ranging from 4% to 4.65%, aligns with traditional monetary policy models such as the Taylor Rule. The team emphasized that, based on key indicators like the core PCE price index and unemployment rate, the current rate level is consistent with economic fundamentals, allowing for only a 25 basis point adjustment.

The report also noted the exclusion of the "first difference rule," which suggests that the Federal Reserve should tighten monetary policy further if inflation remains above target and unemployment does not significantly rise. Since December of last year, the Federal Reserve has maintained the federal funds rate target range at 4.25% to 4.5%, cumulatively reducing it by 100 basis points. Despite historical precedents where policymakers tend to preemptively lower rates in response to labor market risks, Federal Reserve Chairman Powell has repeatedly stressed the restrictive nature of the current policy stance.

This cautious approach contrasts with the persistent pressure from the Trump administration. Market participants, anticipating signs of labor market weakness, have already priced in at least two 25 basis point rate cuts by the end of the year. Notably, during the July monetary policy meeting, two Federal Reserve governors publicly supported a rate cut, diverging from Powell's cautious stance.

The Treasury Secretary's advisor clarified that the "model" referred to by the Treasury Secretary actually points to the Federal Reserve's June forecast for the long-term neutral interest rate range (2.6% to 3.6%). However, this indicator is a forward-looking estimate and does not directly correspond to the current policy rate. Deutsche Bank's strategy team reiterated that policy adjustments should be based on real-time economic data rather than long-term forecasts. Given the persistent inflationary pressures and the labor market's lack of significant deterioration, the rationale for a large rate cut remains insufficient.