After one day of global financial market turmoil caused by concerns of economic recession in the US, some situations become clear.

The inflation problem has fallen to a secondary position in the focus of traders and investors according to the news from the WiseNews app. Many market participants are still hoping for the Fed to cut rates multiple times. As of Tuesday, they expect at least a 200 basis point cut by September next year. However, if the Fed actually cuts rates significantly as currently expected by traders, it may lead to a series of new problems.

Fed rate cuts are a double-edged sword. On the one hand, by lowering benchmark rates from the current level of 5.25% to 5.5%, it can help to combat deflationary or inflationary deceleration pressures that may arise from economic slowdown. On the other hand, rate cuts may reignite worrying inflationary trends through stimulation of risk investment in the stock market, generating a wealth effect similar to what appeared in the first half of 2024 and boosting consumer demand. However, this view remains controversial.

Gang Hu, Managing Partner and Trader of New York hedge fund WinShore Capital Partners, said: "The problem that the market really hasn't considered is whether Fed rate cuts will worsen inflation, not improve it."

All of this will depend on the economic situation when the Fed starts and continues to cut rates, a large part of which will probably be guesswork. According to Hu: "If the market thinks the Fed is behind the situation, rate cuts will be to counter the deflationary pressure brought by an economic slowdown. If the Fed is seen as ahead of the situation, rate cuts will stimulate an unwanted economy and inflation will rise."

On Monday and Tuesday, signals transmitted by Treasury securities adjusted for inflation concerns were tilted toward economic slowdown worries. According to Tradeweb data, on Monday, the yield on U.S. 5-year, 10-year, and 30-year Treasury inflation-protected securities all closed below 2% for the first time since early March. As of 3 p.m. Eastern Time on Tuesday, the yield on 5- to 10-year TIPS was about 1.8%, while that on 30-year TIPS was slightly above 2% due to broader market recovery from Monday's U.S. stock market plunge.

In addition, fixings traded on Tuesday indicated that the headline inflation rate defined by the Consumer Price Index is expected to continue to decline to below 2% in the first half of next year.

According to CME FedWatch Tool data, most federal fund futures traders believe that the Fed will cut rates by at least 100 basis points before the end of the year to between 4.25% and 4.5%. They also think that there is close to a 75% chance of another cut of 100 basis points or more by September next year. This would bring the federal funds rate target down to between 3.25% and 3.5%, or even lower.

"The Fed has every reason to cut rates as the market currently expects, and even more," said Tim Magnusson, Chief Investment Officer of Garda Capital Partners in Minnesota, although what measures policymakers ultimately take remains to be seen. "The market believes the Fed has achieved its goals, and I have no objection to that." With the unemployment rate rising to 4.3% in July and the basic inflation rate below 2%, Magnusson said, "The Fed can now cut rates, and it's perfectly reasonable for them to do so." Monday's stock sell-off reflected the view that policymakers were lagging behind the situation, and the period between now and the next Fed meeting will feel eternal for market participants.

Hu believes that lowering borrowing costs from the high level of 2023 to the level expected by federal fund futures traders may come at a high cost. Multiple Fed rate cuts will "greatly boost asset prices, support house prices, increase inflationary pressure, and attract off-market capital," he pointed out, although the impact on the economy and inflation from the Fed cutting rates by 25 to 75 basis points this year is not significant.

The US annual growth rate for the second quarter is 2.8%, and non-farm employment increased by more than 0.1 million in July. "There is a lot of money in the system," Hu said. Once the Fed starts cutting rates, "you will see inflation stabilize and possibly rise again. The question remains whether this will produce inflation that will make the Fed uneasy again."