Experts warn that big steps would be a mistake [Video]

The big debate on Wall Street – a Fed interest rate cut – is back in the spotlight.

This time, it is not a question of whether the central bank led by Jerome Powell will act at its September meeting, but rather the extent of the cut: 25 basis points or 50.

Calls for a 50 basis point cut have grown louder in recent weeks as a weakening labor market led to demands for the Fed to take more aggressive action to prevent a further deterioration in the economy.

But despite all the fears and doomsday scenarios, strategists and economists told me this week that a 50 basis point cut would send the wrong signal to the market – that it is too late for the central bank to act.

“A 50 basis point cut would cause panic and it’s almost as if we’re completely behind at this point,” warned Jennifer Lee, senior economist at BMO Capital Markets.

She added: “We are hitting the brakes… But the fact that the U.S. economy has held up all this time speaks to its resilience.”

Lee points to the upwardly revised second-quarter GDP, robust consumer spending and the absence of mass layoffs as factors that underpin her call for a more dovish approach, adding that a soft landing is “possible.”

A larger cut could also set off alarm bells among investors. Eric Wallerstein of Yardeni Research told me a massive cut would likely create volatility and signal that the economy is “heading in the wrong direction.”

“Anyone calling for a 50 basis point cut should, in my opinion, really think again about the volatility that this would cause in short-term funding markets,” Wallerstein said.

These two assessments from experienced experts are in line with the views of Jan Hatzius, chief economist at Goldman Sachs, who told Yahoo Finance senior editor Brian Sozzi this week that he expects a series of 25 basis point rate cuts (although he did not completely rule out a 50 basis point cut next week).

With less than a week until the Fed decision, traders are pricing in a 25 or 50 basis point cut as close to breakeven. Since Friday, the probability of a 50 basis point cut has risen to 49 percent, up from 30 percent a week ago.

At the heart of the interest rate cut debate is the risk of a recession, a concern that has plagued Wall Street for years.

Longtime market strategist Jim Paulsen told me on Opening Bid (video above; listen here) that the ongoing fear of a recession is not necessarily a reflection of deteriorating economic data. Rather, it is due to several factors: the shock of the pandemic, the polarizing political environment and the breakdown of recession forecasting tools.

“Every recession tool we have ever used to predict recessions has either failed or simply stopped working,” Paulsen warned. “We don’t know how to assess the risk of recession.”

The inverted yield curve, slowing money supply growth and the Conference Board’s Leading Economic Index (LEI) all point to a recession and are causing concern on Wall Street.

While the Federal Reserve’s decision to cut interest rates on Wednesday is unlikely to end the ongoing recession debate on Wall Street, it should provide investors with some short-term clarity.

If market experts are right, the extent of the rate cut could be an indicator of whether the economy is at greater risk of a downturn. This could shake financial markets and steer recession forecasts in a clear direction.

Buckle up.

Sarah Smith is a moderator at Yahoo Finance. Follow Smith on Twitter @SeanaNSmith. Tips on deals, mergers, activist situations or other topics? Email [email protected].

Three times a week, Yahoo Finance Executive Editor Brian Sozzi hosts insightful conversations and chats with the biggest names in business and markets Opening bidYou can find further episodes on our Video Hub or look at your preferred streaming service.

In the following Opening Bid episode, Judy Shelton, former Trump nominee for the US Federal Reserve, shares her economic forecast.

Click here for a detailed analysis of the latest stock market news and events that move stock prices

Read the latest financial and business news from Yahoo Finance