After 9 months on hold, the Fed could cut rates in September. Why the long pause may extend stocks’ rally.

After 9 Months on Hold, the Fed Could Cut Rates in September: Why the Long Pause May Extend Stocks’ Rally

In September 2025, the Federal Reserve is poised to potentially cut interest rates for the first time since December 2024, following a nine-month pause after a series of rate reductions totaling a full percentage point last year. This anticipated move, widely expected by investors and economists alike, could act as a catalyst to extend the ongoing rally in U.S. stock markets, which have already seen significant gains in 2025. The S&P 500 has climbed roughly 23% year-to-date, while the Dow Jones Industrial Average is up nearly 12.3%, and the Nasdaq has surged over 29%, driven by tech enthusiasm and economic optimism. But why has the Fed held rates steady for so long, and how could a September rate cut fuel further market gains? Let’s dive into the dynamics behind the pause, the factors driving the potential cut, and its implications for stocks.

Why the Long Pause?

Since December 2024, the Fed has maintained its benchmark federal funds rate in the 4.25%–4.50% range, a decision shaped by a delicate balancing act between its dual mandate of controlling inflation and supporting employment. Several key factors have contributed to this extended pause:

1. Sticky Inflation and Tariff Concerns: Inflation has proven more persistent than anticipated, with consumer price index (CPI) readings rising from 2.3% in April 2025 to 2.7% in June, and the Fed’s preferred personal consumption expenditures (PCE) index climbing to 2.6%. President Donald Trump’s proposed tariffs have added uncertainty, with fears they could reignite inflationary pressures by increasing the cost of imported goods. Fed Chair Jerome Powell has emphasized a cautious approach, noting that businesses are increasingly passing tariff costs to consumers, potentially pushing inflation above the Fed’s 2% target.
2. Resilient but Softening Labor Market: While the U.S. economy has avoided a recession and shown robust growth compared to other developed nations, recent labor market data has raised concerns. July 2025 saw only 73,000 jobs created, well below the 110,000 expected, with downward revisions to prior months signaling a slowdown. The unemployment rate, hovering around 4.2%, remains low, but the Fed is wary of further weakening that could tip the economy into a downturn.
3. Policy Uncertainty Under Trump: The Fed has faced intense political pressure from President Trump, who has publicly demanded aggressive rate cuts, even lobbing insults at Powell. Trump’s nomination of Stephen Miran, an advocate for easing, to the Fed’s Board of Governors in August 2025 has further complicated the outlook, potentially tilting the Fed toward a more dovish stance. However, Powell has maintained the Fed’s independence, adopting a data-dependent approach to navigate tariff-related inflation risks and economic shifts.
4. Economic Resilience: Despite inflationary pressures, the U.S. economy has remained strong, with solid corporate earnings and consumer spending. Powell has noted that growth has outpaced other developed economies, giving the Fed room to hold rates steady while monitoring incoming data. This resilience has allowed the Fed to delay cuts without triggering a recession, but recent signs of moderation have shifted the risk balance toward employment concerns.

Why a September Rate Cut Now?

As of August 2025, market expectations for a September rate cut have surged, with the CME FedWatch Tool indicating a 92%–94% probability of a 25-basis-point cut, bringing the federal funds rate to 4.00%–4.25%. Some, including Treasury Secretary Scott Bessent, have even floated the possibility of a bolder 50-basis-point cut, citing weak employment numbers. Several factors are driving this shift:

• Weak Jobs Data: The disappointing July jobs report and revisions to earlier months have heightened concerns about labor market fragility, prompting calls for monetary easing to stimulate growth.
• Moderating Inflation: While inflation remains above the 2% target, July’s CPI data showed moderate increases, easing fears of runaway price growth. Some Fed officials view tariff-related price hikes as temporary, reducing the urgency to keep rates high.
• Dissent Within the Fed: At the July 2025 meeting, two Fed governors, including Michelle Bowman, dissented, favoring a rate cut, signaling growing internal support for easing. Powell’s remarks at the Jackson Hole Symposium on August 22, 2025, further hinted at a potential cut, noting a “shifting balance of risks” toward employment.
• Market Expectations: Investors have priced in near-certainty for a September cut, with some anticipating one or two additional cuts by year-end, based on futures data.

How a Rate Cut Could Extend the Stock Market Rally

A September rate cut could act as “rocket fuel” for stocks, as historical data and market analysts suggest. Here’s why:

1. Lower Borrowing Costs: A rate cut reduces the cost of borrowing for companies, boosting profitability and encouraging investment in growth initiatives. This is particularly beneficial for growth stocks in sectors like technology and communication services, which have led the 2025 rally, and small-cap stocks, which are sensitive to interest rate changes. The Russell 2000 index of small-cap stocks, for instance, has underperformed but could see a “boom” with lower rates, as noted by some analysts.
2. Historical Precedent: LPL Financial’s analysis shows that the S&P 500 has returned an average of 30.3% during rate-cutting cycles since 1974, with positive returns in six of nine cycles when the economy avoids a recession. Fidelity’s research further suggests that when the Fed cuts rates in a non-recessionary environment with positive earnings growth, stocks can return more than twice their long-term average over six months. With corporate earnings remaining strong in 2025, this bodes well for continued gains.
3. Sector-Specific Boosts: Lower rates would likely benefit sectors like real estate, where reduced mortgage rates could spur housing demand, benefiting homebuilders and REITs like Lowe’s and Prologis. Technology and consumer discretionary stocks, which have driven much of the market’s gains, could see further upside as financing costs drop. Posts on X also highlight optimism for a “melt-up” in the S&P 500 through year-end, fueled by expected cuts and AI-driven growth.
4. Consumer Spending and Confidence: Lower rates could ease debt burdens for consumers, encouraging spending on big-ticket items like homes and cars, which supports economic growth and corporate revenues. This, in turn, bolsters investor confidence, driving equity demand.

Risks and Caveats

While a rate cut could extend the rally, risks remain:

• Tariff-Induced Inflation: If Trump’s tariffs significantly raise prices, the Fed may pause further cuts, dampening market enthusiasm. Some X posts warn that cutting rates in an overheated economy could trigger inflation and a market correction.
• Economic Slowdown: If labor market weakness worsens, a single 25-basis-point cut may not suffice, and fears of a recession could spook investors.
• Market Overvaluation: With the S&P 500 already up significantly, some analysts caution that valuations are stretched, and any hawkish Fed signals could spark volatility.

Conclusion

The Fed’s nine-month pause on rate cuts reflects its cautious navigation of persistent inflation, tariff uncertainties, and a resilient yet softening economy. A September 2025 rate cut, now nearly certain, could extend the stock market’s rally by reducing borrowing costs, boosting consumer spending, and supporting growth-oriented sectors. Historical data and current market sentiment, as seen in posts on X, suggest significant upside potential, particularly if the economy avoids a recession. However, investors should remain mindful of inflationary risks and potential volatility from trade policies. As Powell’s Jackson Hole speech underscored, the Fed’s data-driven approach will be key, and upcoming economic releases before the September 17 meeting will shape the path forward. For now, the prospect of lower rates is a bullish signal, potentially keeping the market’s momentum alive into late 2025.