How Today’s Fed Decision Could Reprice Long-Term Rates and Set the Tone for Markets

The Federal Reserve is expected to cut its policy rate by 25 basis points at 2:00 p.m. Eastern today and will release updated projections for rates, inflation and growth. Chair Jerome Powell will take questions at 2:30 p.m. Eastern. Traders have already priced the odds of a quarter point move, but the real market test will come from the guidance that accompanies the decision and the tone Powell strikes at the press conference.

Two interconnected themes will dominate the trading session. The first is whether the Fed is content to rely on the traditional mechanics of monetary policy that influence long-term rates indirectly. The second is whether the Fed will signal a more active role in directly shaping long-term borrowing costs. That debate is no longer academic. An unusually prominent reference by a Fed governor during his confirmation hearing to the law the central bank operates under has focused attention on the “third mandate” of the Federal Reserve Act, which mentions moderate long-term interest rates alongside price stability and maximum employment.

Under the conventional view, the Fed sets short-term rates and the bond market determines the long end of the curve. Long-term yields then reflect expectations for inflation and growth and the credibility of the Fed in holding inflation down. That view was summed up by a former Fed chair who noted that moderate long-term rates are typically a byproduct of price stability. If investors trust the Fed to deliver low and stable inflation, long-term rates tend to stay lower.

But Republican appointees to the Fed and officials aligned with the administration have been raising the profile of that third mandate. A governor who referenced the mandate in testimony said that Congress tasked the Fed with pursuing price stability, maximum employment and moderate long-term interest rates. Market participants are reading that language as an opening to argue that the Fed could act more directly on the long end through balance sheet policy, regulation or other nontraditional tools.

That is important because the Fed’s current policy toolkit includes not only the short-term policy rate but also a $6.6 trillion balance sheet. Changes to the balance sheet affect the supply of long-term securities available in the market. Regulatory choices can change how much appetite banks and other financial institutions have for long-duration assets. If the Fed signals it will use these tools to influence long-term yields, the yield curve could be managed more actively. The range of possibilities includes stopping the shrinkage of the balance sheet, resuming purchases of longer-term securities, or, in more extreme scenarios, adopting a framework that more explicitly targets parts of the yield curve.

Markets will be listening for any hint that Fed officials are open to those approaches. If the guidance that comes with the rate cut emphasizes balance sheet options or gives more weight to the goal of keeping long-term borrowing costs moderate, Treasury yields at the long end could fall. Lower long-term yields would reduce mortgage rates and corporate borrowing costs. That outcome would be supportive for interest rate sensitive corners of the equity market, such as real estate related sectors and homebuilders, because mortgage financing would become cheaper and housing demand could see relief.

At the same time, there are important constraints on how far the Fed can go. A single governor is one of seven voting members. The governor who raised the third mandate point serves a term that expires in January and could remain until a successor is confirmed. His testimony described the law accurately but did not explicitly endorse any specific novel tools. For many investors that will be a reminder to temper expectations for rapid policy innovation.

Economic data will also factor into the market reaction. Housing starts in August fell 8.5 percent to a 1.3 million annualized pace and building permits declined almost 4 percent. Those figures point to a slowdown in residential construction after a brief pickup and will be part of the Fed’s calculus when it explains its outlook for growth and inflation. Slower construction activity tends to weigh on growth and could support the case for easier policy, which may push yields down if investors interpret the overall package as dovish.

There is, however, a separate and growing source of market risk tied to confidence in official economic statistics. The recent abrupt firing of the Bureau of Labor Statistics commissioner triggered concern among economists and market participants about the independence and credibility of the agency that produces key measures of jobs and prices. The former commissioner warned that the future of U.S. economic statistics looks uncertain and cautioned that loss of trust in data can lead to worse outcomes for an economy, including higher inflation and higher borrowing costs as investors demand a larger premium for uncertainty.

For markets, uncertainty about the integrity of economic data is a real headwind. If investors cannot rely on official releases to understand underlying inflation and labor market dynamics, they will add a greater risk premium to long-term assets. That premium could push yields up even if the central bank lowers short-term rates. In other words, efforts to directly suppress long yields through policy could be counterproductive if they come at the expense of credibility in statistics and institutional independence.

Traders will parse Powell’s comments for any signals about where the Fed stands on those trade offs. Will the Fed reiterate that moderate long-term rates remain an outcome of price stability or will it suggest a willingness to act more directly through balance sheet tools and regulatory levers? Will the Fed defend the independence of statistical agencies and reaffirm its commitment to transparency? Answers to those questions will determine whether markets view today’s 25 basis point cut as the start of a path that pushes long-term yields lower or as a contained move that leaves the longer end of the curve governed primarily by inflation expectations and private sector demand.

Positioning heading into the announcements will matter. With markets largely expecting a rate cut, initial moves in cash Treasuries and futures are likely to be modest. The second phase of the reaction will come when the Fed lays out its projections and Powell fields questions. If the balance sheet is explicitly highlighted as a tool to influence long rates, expect volatility in mortgage backed securities and corporate credit spreads as investors reassess duration and liquidity risks. If the Fed emphasizes traditional frameworks and the economic data story, the market move could be smaller and more predictable.

The session ahead will be about more than a single rate action. Traders and investors will be weighing whether policy is shifting toward a new posture that treats long-term borrowing costs as a direct policy objective. That debate will shape not only Treasury yields but also mortgage markets, corporate financing, and the outlook for rate sensitive stocks. At the same time, the credibility of economic statistics and the integrity of data releases will be watched closely because erosion of trust there could have the opposite of the intended effect and raise long-term borrowing costs for the economy as a whole.

Expect a volatile two hours around the decision and the press conference. The initial quarter point move is priced in. The bigger market story will be the guidance and the confidence investors take from the Fed’s view on long-term rates and on the broader quality of the economic data that underpins policy decisions.