US economy will see 'more things break' in 2025 if rates stay high, strategist says

Federal Reserve Bank Chairman Jerome Powell speaks during a news conference in the bank's William McChesney Martin Building March 20, 2024 in Washington, DC.

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The U.S. economy could be headed for stormy waters in 2025 if the Federal Reserve does not act quickly on interest rates, State Street's head of EMEA investment strategy said Tuesday.

Altaf Kassam told CNBC that traditional monetary policy mechanisms are “broken,” meaning any changes the Fed makes will now take longer to trickle down to the real economy, potentially delaying any major shocks.

“The traditional mechanism of transmission policy is broken, or not working as well,” Kassam told Squawk Box Europe.

The head of research attributed this change to two things. First, US consumers, whose largest liability is typically their mortgage, which was mostly secured on a longer-term fixed rate basis during the Covid-19 low interest rate period. Likewise, American companies have at the same time largely refinanced their debts at lower rates.

So the impact, for example, of a sustained rise in interest rates may not be felt until later, when it comes to refinancing.

“The problem is if rates stay at this level until, say, 2025, when there's going to be a big wall of refinancing, then I think we'll start to see more things break down,” Kassam said.

“For now, consumers and businesses are not feeling the effects of rising interest rates,” he added.

Expectations of a short-term Fed rate cut have faded recently due to persistent inflation data and hawkish comments from policymakers.

San Francisco Fed President Mary Daly said Monday there is “no urgency” to cut U.S. interest rates as the economy and job market continue to show signs of strength and inflation remaining above the Fed's 2% target.

Until last month, markets were anticipating up to three rate cuts this year, with the first scheduled for June. However, a number of banks have since pushed back their deadlines, with Bank of America and Deutsche Bank both saying last week that they now expect just one rate cut in December.

That marks a departure from the European Central Bank, which is widely expected to cut rates in June after holding steady at its meeting last week. However, Morgan Stanley on Monday reduced its expectations for an ECB rate cut for 2024 by 100 basis points to 75 basis points, which it said was due to “a change in the reduction cycle forecast Fed rates.

Kassam said Tuesday that State Street's expectations for a June Fed rate cut have not changed.

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