The Federal Reserve is anticipated to maintain its current interest rates, but a potential rate cut in September is on the horizon. This is due to favorable changes in U.S. inflation and a softening labor market.

What Happened: The Federal Open Market Committee is expected to keep the benchmark interest rate at 5.25% to 5.50% when it concludes its two-day meeting on Wednesday, reported the Financial Times. However, the meeting is likely to serve as a platform for signaling a potential shift in monetary policy as early as September.

"The Fed is moving closer to a rate cut, and its communications this week should reflect that," said Brian Sack, the former head of the New York Fed's Markets Group.

Officials have been given the leeway to consider rate cuts due to clear evidence that inflation is being brought under control. Consumer price growth has significantly slowed in recent months, allaying concerns that arose earlier this year.

The labor market, previously a significant contributor to inflationary pressures, has also entered a new phase, with hiring slowing down and resulting in slower wage growth.

These developments have led to a rise in layoffs, pushing the three-month average unemployment rate up by 0.43 percentage points, just short of the 0.50% trigger for the Sahm Rule, which marks the beginning of a recession.

The Fed is keen on maintaining a healthy labor market and acknowledges that keeping the policy rate too high for too long could jeopardize this.

Some economists believe the Fed might be risking a misstep by postponing a rate cut until September, considering the current economic slowdown. "Although it might already be too late to fend off a recession by cutting rates, dawdling now unnecessarily increases the risk," said former New York Fed president Bill Dudley according to the report.

Fed Chair Jerome Powell and other officials are expected to address these developments directly on Wednesday during the press conference.

Economists anticipate the Fed to acknowledge the progress made in inflation and the risks posed by the softening labor market. The Fed is also expected to affirm its confidence in its ability to manage inflation and its readiness to lower rates.

Peter Hooper, Vice-Chair of Research at Deutsche Bank, considers it wise for the central bank to hold off on starting its easing cycle until September, according to the report.

Ellen Meade, a former senior adviser to the Fed's board of governors and now a Duke University scholar, suggested that Powell likely believes he can't secure the necessary consensus to proceed until September. "Given what they experienced with inflation picking up at the beginning of the year, they're probably leaning into that second risk," she said.

Why It Matters: The Fed's potential decision to cut rates in September comes amid a global economic landscape that is also seeing shifts. For instance, the People's Bank of China (PBOC) recently executed an unscheduled lending operation at significantly lower rates, indicating a potential increase in monetary stimulus to support the economy. This move followed the bank's decision to cut several benchmark lending rates just days after a key leadership meeting that outlined major reforms.

Earlier in July, New York Federal Reserve President John Williams hinted at a potential interest rate cut in the coming months, suggesting that the Fed might be closer to this decision than previously thought. He indicated that a rate cut could be on the cards if the recent slowdown in inflation persists, reported The Wall Street Journal. This was in line with hints at potential rate cut plans by the Fed's top advisor.

Meanwhile, Federal Reserve Governor Lisa Cook has emphasized the central bank's readiness to act if the unemployment rate surges, despite the current 4.10% unemployment rate indicating a robust labor market. She noted that the situation could change rapidly, necessitating a responsive approach.