As we step into 2024, a year that marks the onset of a rate-cutting cycle following numerous rounds of interest rate hikes across major global economies, a pertinent question emerges: when and how will this cycle conclude? With central banks now shifting towards a more accommodating stance, market participants and policymakers alike are keenly observing the developments, particularly through the lens of historical precedents.

Recently, analysts at Goldman Sachs, led by Jan Hatzius, released a comprehensive report analyzing past "soft landing" monetary easing cycles among G10 economiesThey identified three crucial patterns that characterize the conclusion of these periods.

First, central banks tend to approach the conclusion of easing cycles with caution, usually opting to pause rate cutsSecond, if unemployment rates begin to rise or if the policy interest rates are above the neutral rate, this will prompt further rate cuts by the central banks

Lastly, it is common for central banks to lower policy rates below the neutral rate as they near the end of the easing cycle.

The report suggests that these established historical trends reinforce current dovish expectations for interest rates in G10 countries, including the Federal Reserve and Bank of Canada, which may continue to reduce ratesFurthermore, Goldman Sachs forecasts that the Federal Reserve may enact three additional rate cuts in 2025, each by 25 basis points.

The pace of these rate cuts typically follows a pattern: faster at the beginning of the easing cycle and slower as the cycle progressesHistorical data indicates that during the initial six months of a rate cut period, central banks implement reductions at a more aggressive pace, achieving about 50% of the total anticipated cutsHowever, as the cycle moves into its latter stages, the pace of cuts tends to decelerate significantly

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Statistical evidence shows that in the last three months of a rate-cut cycle, the average cut drops from 1.1 percentage points to 0.7 percentage points.

Moreover, pauses in rate cuts are a prevalent feature in the history of easing cycles: more than 70% of these cycles included at least one pause, with nearly 50% witnessing two or moreThis trend underscores a shift towards caution by central banks as they fine-tune their policies in alignment with targeted interest rates.

Such a scenario dictates the overall duration of the rate-cutting cycleNearly half of the "soft landing" easing periods have lasted over a year, signaling that rate reductions do not conclude in haste but rather through a more nuanced adjustment of policy.

Two pivotal variables emerge as key determinants of when the rate-cutting cycle may conclude: the unemployment rate and the position of the policy rate relative to the neutral rate

Goldman Sachs' research points out a significant correlation between rising unemployment rates and the likelihood of continued rate cutsSpecifically, their regression analysis indicates that for every one percentage point increase in the unemployment rate, the probability of further rate cuts surges by a remarkable 40 percentage pointsThis highlights the central banks' acute sensitivity to labor market conditions, making the unemployment rate a primary factor in monetary policy deliberations.

In addition to unemployment, the relative level of the policy rate is also a critical factorWhen the policy rate is above the central bank's neutral rate estimate, the rate-cutting cycle tends to persistThis phenomenon is particularly evident in the early stages of economic recoveryGoldman Sachs estimates that a policy rate exceeding the neutral rate by just one percentage point increases the likelihood of rate cuts by 25 percentage points.

According to historical data, G10 countries typically conclude their rate-cutting cycles with policy rates dipping below neutral levels

On average, the endpoint of these cycles is roughly one percentage point lower than the neutral rate, with data distribution skewed downwardThis implies that as an economy approaches a "soft landing," central banks are inclined to adopt a more accommodative monetary policy stance.

Additionally, rising unemployment plays a significant role in driving the endpoint of these cycles, as highlighted by Goldman Sachs' analysis, which asserts that a one percentage point increase in unemployment corresponds to a 20 percentage points higher probability of the central bank lowering policy rates below neutralIn contrast, factors such as core inflation rates and GDP growth exert comparatively limited influence on the continuation of rate cuts.

Looking ahead, Goldman Sachs maintains a dovish outlook for monetary policy trajectories among major economies, anchored in these historical patterns

The report notes that countries such as the United States, Canada, and Sweden are experiencing notable upticks in unemployment, suggesting that their central banks may press on with rate cuts to counteract economic slowdown and pressures in the labor market.

Taking the Federal Reserve as a case in point, despite its rather "hawkish" signals during the December 2024 meeting, which hinted at uncertainties regarding the timing and scale of future rate reductions, Goldman Sachs interprets this stance not as a signal of the end of the rate-cutting cycle but rather indicative of a slowing trend typical of the latter stages of such cycles.

In conclusion, as we navigate through 2024, the unfolding monetary policy landscape will certainly draw on the historical precedents identified by Goldman Sachs and othersWith the interplay of rising unemployment and responsive monetary strategies looming large, stakeholders will keep a watchful eye on the central banks, anticipating their next moves in this complex and dynamic economic environment.