The US Federal Reserve is set to cut interest rates on Wednesday, with the key question gripping investors being whether the central bank will reduce interest rates by 25 or 50 basis points. On Thursday, the Bank of England (BoE) is widely expected to announce that it is keeping UK rates unchanged.

A 25 basis point reduction would bring the target range to 5.0%–5.25%, while a more aggressive 50 basis point cut would lower it to 4.75%–5.0%. With inflation still above the Fed’s 2% target and signs of economic strain emerging, speculation has intensified on which course policymakers will take.

Former New York Fed president Bill Dudley said there's a "strong case" for a deeper cut as FOMC members attempt to manoeuvre a "soft landing" of the economy. This view, combined with reports from the Financial Times and the Wall Street Journal indicating a split among policymakers, has heightened expectations for a 50 basis point reduction.

However, persistent inflationary pressures could lead the Fed to opt for a more cautious approach. Core inflation readings have come in higher than expected, complicating the decision.

“With core inflation running hot, the Fed’s path to a 50 basis point cut has become more difficult,” said Seema Shah, chief global strategist at Principal Asset Management. While the latest Consumer Price Index (CPI) data for August showed year-on-year inflation easing to 2.5%, monthly readings on core inflation suggest the Fed may opt for the more moderate 25 basis point cut to prevent stoking inflation further.

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On the other hand, a weakening labour market could justify more aggressive action. The August payroll report showed signs of stabilisation with 142,000 jobs added, but it followed a sharp downward revision for July's figures.

JPMorgan economist Michael Feroli suggested the Fed should take stronger measures to adjust for shifting risks: "We believe the Fed should recalibrate the policy rate 50bp lower to account for the evolving economic landscape."

Whichever size cut is announced, the reduction will mark the end of the American economy’s two-year battle with high inflation in the run-up to presidential elections in November.

“The Fed’s open markets committee will almost surely cut rates, with inflation muted and the labour market showing signs of cooling,” Marc Giannoni, chief US economist at Barclays, said.

Fed chair Jerome Powell last month said the central bank would “do everything we can to support a strong labour market as we make further progress towards price stability”.

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The Fed’s cut would come on the eve of the September meeting of the Bank of England’s monetary policy committee (MPC), which is widely expected to keep the UK base rate on hold at 5%, after it reduced rates in August.

“The tone of the August meeting and subsequent speeches have made it abundantly clear that officials don’t want markets running away with the idea that this is going to be a rapid easing cycle,” said James Smith, economist at ING.

Speaking at the Jackson Hole summit of central bankers in the US late last month, BoE governor Andrew Bailey struck a cautious note.

“The second round inflation effects appear to be smaller than we expected,” he said. “But it is too early to declare victory.”

August inflation data on Wednesday, the day before the BoE meeting, could affect investors’ expectations.

Economists polled by Reuters expect headline CPI inflation of 2.2% in August, the same as in July. Services inflation is expected to rise to 5.5% in August from 5.2% in the previous month.

Sanjay Raja, senior economist for Deutsche Bank, said that “despite cutting rates in August, the MPC struck a more cautious tone around inflation risks — something that will likely stick in September”.

He also thinks the Bank will keep rates the same on Thursday but then reduce them again in November.

Analysts at Investec Economics agreed that the Bank is unlikely to follow up August’s decision with a “back-to-back cut”.

Andrew Goodwin, chief UK economist for Oxford Economics, said most members of the MPC are “likely to be content to sit back and reassess the situation in November, a meeting at which the MPC will update its forecasts to incorporate the impact of the budget”.

“We think that fiscal event will be the factor most likely to push the MPC off the gradual loosening path that it advocated in August,” he said, meaning it could start cutting rates more quickly.

However, job vacancies fell last month as Britain’s factory output dropped for the first time in four years, in signs that the economy is slowing down after two months of no growth.

The figures will add to the case for cutting interest rates when members of the MPC meet this Thursday.

Threadneedle Street could also follow the European Central Bank’s (ECB) decision to cut interest rates in the Eurozone on Thursday, the second reduction in a row.

The ECB’s rate-setting council lowered the main deposit rate from 3.75% to 3.5% at the meeting.

Elsewhere, Brazil’s central bank is scheduled to hold its next policy meeting across Tuesday and Wednesday. Norway’s Norges Bank and South Africa’s Reserve Bank will all follow on Thursday.

The week of central bank decisions will culminate on Friday, when the Bank of Japan (BoJ) wraps up its two-day meeting. The BoJ remains an outlier among global peers with its ultra-loose monetary policy, though some analysts speculate it may signal a shift as inflationary pressures persist in the world’s third-largest economy.

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