Rate cuts are coming, but the US Federal Reserve is not ready to say when.

With inflation slowly dropping to the Fed's 2% goal, and one of the most robust labor markets in generations starting to soften, Fed Chairman Jerome Powell on July 31 said the first rate cuts since the early days of the pandemic could be approved at the Fed's Sept. 18 meeting. Though exactly when those cuts really begin and how much the central bank ultimately reduces rates over the next few months will depend on how much more the jobs market cools and whether inflation continues to subside.

This poses substantial dangers for an economy that has been near the edge of a recession for more than two years as an extended wait for a loosening of monetary policy could trigger a spike in joblessness, weaken consumer spending and throttle economic growth.

"There is a real risk to the economy by waiting," said Kathy Jones, managing director and chief fixed-income strategist with the Schwab Center for Financial Research. "The Fed knows there are long and variable lags from policy changes and waiting a few more months can have negative consequences down the road."

Weighing the risk

The Fed, as widely expected, unanimously voted July 31 to hold its benchmark federal funds rate between 5.25% and 5.5%, where it has been since July 2023.

During a press conference after the vote, Powell said that rate cuts would be considered at September's meeting but officials were reluctant to cut now, had made no decisions on future cuts, and needed to see further progress on inflation cooling and the jobs market normalizing.

"We have to weigh the risk of going too soon against the risk of going too late," Powell said. "It's a difficult judgment to make."

With real interest rates near highs last seen in late 2007, unemployment on the rise and hiring plummeting, Jones with Schwab said it was unclear why they wanted to keep interest rates at 20-year highs.

"I'm not sure if Powell and the committee are just overly cautious, but the waiting game seems to be increasing the potential for a weaker outlook in late 2024 and into 2025," Jones said.

The Fed could have easily made the case to cut rates now, but the central bank is playing the "long game" and is reluctant to move to loosen policy and then see inflation tick back up in coming months, said Steve Wyett, chief investment strategist at BOK Financial.

"The history of inflation coming in waves, and an overall positive economic picture, gives them pause," Wyett said. "The unfortunate part of this is the lags in monetary policy probably mean if the Fed waits for confirmation in the data, it is too late."

Still, Wyett said, a 25-basis-point cut now could inadvertently spur higher economic activity, reigniting inflation, which Fed officials see as a steeper risk than a period of economic weakness.

"They were late chasing inflation and I think the Fed lost some credibility in letting inflation run away," said Chris Gaffney, president of world markets at EverBank. "Since then, the Fed has walked the tightrope really well and they continue to do so."

The risk of not cutting now is a calculated one, since the September meeting is just seven weeks away, said Todd Thompson, managing director and portfolio co-manager at Reams Asset Management.

"They don't want to stick their necks out," Thompson said.

If the labor market substantially softens by the time of the September meeting, the Fed could just cut 50 bps rather than the 25 bps now largely anticipated, Thompson said. The Fed is focused on timing the first cut correctly because they are highly unlikely to reverse policy course once they begin.

"When they start, they're not stopping," Thompson said.