The Federal Reserve Cuts Rates by 25 Basis Points, Shaking Global Markets

On December 18, the U.S. Federal Reserve announced a 25-basis-point cut to the federal funds rate, adjusting it to a range of 4.25% to 4.50%. This decision aligned with market expectations. Federal Reserve Chair Jerome Powell stated in the subsequent press conference that future rate adjustments would be more cautious, emphasizing that while challenges persist, the December rate cut was appropriate. He also noted that any further rate cuts in 2025 would depend on economic data, with additional cuts being considered only after significant improvements in inflation.

The Federal Reserve also released its latest economic projections, forecasting U.S. economic growth of 2.5% and 2.1% in the next two years, respectively, which are 0.5 percentage points and 0.1 percentage points higher than the September forecast. Unemployment rates are expected to be 4.2% and 4.3% over the same period, reflecting a slight decline from previous predictions. Inflation is projected at 2.4% and 2.5% for 2024 and 2025, respectively, with core inflation at 2.8% and 2.5%, exceeding the 2% long-term target.

After the rate cut announcement, the U.S. dollar index surged by 1.22%, reaching its highest level since November 2022, triggering global market reactions. The euro, British pound, and Japanese yen saw significant depreciations against the dollar. Offshore Chinese yuan fell past the 7.30, 7.31, and 7.32 thresholds, hitting its lowest point since November 3, 2023. Onshore yuan followed suit, dropping below 7.29 to a low of 7.2981, also marking a new low since November 3, 2023. The yuan's central parity rate against the dollar was set at 7.1911, down 31 basis points from the previous trading day.

This rate cut not only impacted the dollar's exchange rate but also had widespread implications for global financial markets, particularly as emerging market countries face pressure from capital outflows. Investors remain cautious about future economic growth and inflation prospects, leading to fluctuations in global stock markets.

Reduction in U.S. Treasury Holdings by China, Japan, and the UK

In recent months, China, Japan, and the UK have collectively reduced their holdings of U.S. Treasury bonds. U.S. national debt has grown rapidly, surging from $34 trillion to $36 trillion in just one year. In 2023, the debt increased by $2 trillion within months. In October, the three largest foreign holders of U.S. debt — Japan, China, and the UK — all significantly reduced their U.S. Treasury holdings.

• China reduced its holdings by $11.9 billion, bringing its total to $760.1 billion, a 15-year low.
• Japan cut $20.6 billion, lowering its holdings to $1.1 trillion.
• The UK sold off $18.4 billion, reducing its holdings to $746 billion.

Market concerns over the U.S. economic outlook have driven these nations to collectively sell off U.S. debt. Japan, the largest holder, aims to stabilize the yen exchange rate through these reductions. China's actions reflect a strategic adjustment in its foreign reserves as it promotes RMB internationalization, reducing reliance on the dollar. The UK’s unexpected move suggests that even close allies are adopting a cautious stance on the U.S. economic future.

The reliance on domestic investors to purchase over 70% of U.S. Treasury bonds — including state governments, pension funds, social security funds, Wall Street banks, and private citizens — highlights the internal circulation model of U.S. debt. The Federal Reserve has also purchased significant amounts of bonds through quantitative easing, sustaining a low-interest-rate environment to spur economic growth. However, as inflationary pressures mount, the Fed is cautiously shrinking its balance sheet, reducing bond holdings to avoid economic disruption.

While this internal model temporarily alleviates concerns over external demand for U.S. debt, it underscores a deeper issue: the ultimate repayment burden lies with American taxpayers. Borrowing is easy, but repayment, along with the accumulating interest burden, becomes increasingly challenging.

China’s reduction of U.S. Treasury holdings also reflects deeper geopolitical and economic tensions, including recent U.S. economic measures against China. As global de-dollarization trends accelerate, future demand for the dollar is expected to decline, leaving the U.S. taxpayer to shoulder the debt.