Bank of America said in a May 6 report that if the Fed preemptively cuts interest rates, it would be a predetermined that the combination of tariffs and expected fiscal easing will pose downside risks to growth that outweigh upside risks to inflation. With trade negotiations still uncertain, an early rate cut could not only be ineffective, but could also cause substantial harm to the real economy and drain the Fed's valuable policy ammunition.

This is the third consecutive time since January that the Fed has kept interest rates unchanged. Judging from the post-meeting statement, the Fed acknowledged that uncertainty about the economic outlook has risen further and that "the risk of rising unemployment and inflation has increased."

Interest rate cuts will not necessarily bring down long-term bond yields

Powell has repeatedly stressed that the Fed is in no hurry to cut interest rates. The April jobs report also supported his view that the economy was doing well and there was no need to rush to the rescue.

Although there are many voices in the market calling for a rate cut, Bank of America analyst Aditya Bhave believes that cutting rates at this stage could be counterproductive. Why? Let's take a look at his analysis.

First, let's understand a key point: Fed rate cuts do not necessarily directly lower US yields on long-term bonds (such as 10-year and 30-year Treasuries).

Monetary policy affects the real economy, mainly through borrowing rates, which depend primarily on long-term Treasury yields, rather than short-term policy rates. In other words, even if the Fed cuts interest rates, long-term Treasury yields will not necessarily follow.

Recently, the long-term US Treasury market has underperformed due to "de-dollarization" deals and concerns about fiscal deficits. In this case, can interest rate cuts really be effective in lowering long-term Treasury yields? The answer may not be promising.

Bhave further pointed out that if the Fed preemptively cuts rates now, it is effectively making a bold assumption: tariffs and related uncertainties, combined with expected fiscal easing, pose greater downside risks to growth than they pose to inflation.

This judgment is risky. Because once the economy does not rebound as expected after the rate cut, but instead leads to higher inflationary pressures, the Fed is in a dilemma.

Jingtai summarized Bhave's view: interest rate cuts will not necessarily pull down long-term Treasury yields, because borrowing rates rely more on long-term Treasury bonds than short-term policy rates; There are risks to the current rate cuts, especially in the context of fiscal deficits and tariff uncertainty, and an early rate cut could have unintended negative effects; Patience is a wise choice, and at least for now, the economic data supports this strategy.

What if the borrowing rate rises when the interest rate is cut?

If the Fed announces a rate cut, but the borrowing rate in the market – especially the yield on long-term Treasury bonds – has not fallen, but has risen. It sounds a bit anomalous, but it can happen.

There are several reasons for this:

Market expectations: If the market believes that the economic outlook remains uncertain (such as concerns about tariffs or fiscal deficits), investors may demand higher returns to compensate for the risk, pushing up long-term Treasury yields.

Inflation expectations: A rate cut usually means more money supply, which can trigger inflation concerns, and rising inflation expectations can push long-term interest rates higher.

In such a scenario, the Fed's original intention of stimulating the economy by cutting interest rates would not be realized, and could even be counterproductive, leading to higher borrowing costs and dampening economic growth.

An early rate cut could undermine the Fed's independence. We know that Fed policy should be based on economic data and market conditions, not political pressure. However, the Trump administration has repeatedly called for interest rate cuts, and if the Fed cuts rates earlier against this backdrop, the market may suspect that this is due to political reasons rather than economic considerations.

Bhave noted that if the market believes that the Fed is driven by political factors, a market reaction similar to that seen on April 21 could be repeated. At that time, market rumors that Powell might be replaced as the chairman of the Federal Reserve because Trump was dissatisfied with not cutting interest rates, which triggered the "triple kill" of U.S. stocks and bonds: the stock market and the dollar fell sharply; The yield on the 30-year Treasury rose more than 10 basis points.

This market turmoil will not only affect short-term sentiment, but it will also cause long-term damage to the Fed's reputation.

BofA also emphasized an important point: even if the "tragedy" of April 21 is not repeated, if the 30-year Treasury yield remains stable throughout the rate cut cycle, it will still be a problem for the Fed. Why? Because it means that the Fed has used some of its policy tools, but the effect is not obvious. In other words, if interest rate cuts are not effective in lowering long-term interest rates, the Fed will have fewer tools at its disposal in the future when it really needs to stimulate the economy.

This is also why the Fed tends to keep interest rates unchanged for much longer than the market expects. They want to retain enough policy space to address the greater challenges that may arise in the future.

Fed officials speak out intensively

First, New York Fed President Williams emphasized an important point: stabilizing inflation expectations is the "cornerstone" of Fed policy. In other words, maintaining price stability is one of the Fed's core tasks.

Williams put it bluntly: "Whether in the face of economic shocks, changes in government policy, or fluctuations in globalization and de-globalization, maintaining price stability is an important responsibility for us." We are the guardians of price stability. He also noted that uncertainty will remain a key feature of the monetary policy environment for the foreseeable future. This means that the Fed needs to be prepared for all kinds of unexpected situations.

Regarding the "precautionary rate cut" that the market is talking about, Williams made it clear that it is "inappropriate" to discuss this topic at this time. As the current economic situation remains uncertain, a rash rate cut could pose an unexpected risk.

In addition, Williams also predicted that the US economy will grow significantly lower in 2025 than in 2024, while inflation and unemployment are also likely to rise. This suggests that while the economy is doing well in the short term, challenges remain in the long term.

On the same day, Fed Governor Adriana Kugler also voiced her views. She believes that interest rates should be kept unchanged for the time being, as the US economy remains robust and the uncertainty caused by tariffs increases.

Her reasoning is simple: "Overall, the real economy remains healthy, which gives us time to continue to move forward with inflation governance and ensure that inflation expectations remain well anchored." In other words, while the economy is facing some uncertainties, the overall situation is not bad and there is no need to rush to adjust interest rates. Maintaining the status quo and giving the market more time to observe is a safer option.

Finally, Federal Reserve Vice Chair Michael Barr issued a warning that the U.S. government's trade policies could bring persistent inflationary pressures and higher unemployment. Barr's point reminds us that trade frictions can not only affect short-term economic performance, but can also lead to long-term structural problems. If not properly addressed, these issues could be a drag on the entire economic recovery process.