Fed expected to raise rates another 75bps, then 'set the stage for a cut'

Fed expected to raise rates another 75bps, then ‘set the stage for a cut’

The Federal Reserve is expected to raise its benchmark interest rate by three-quarters of a percentage point for the fourth consecutive meeting on Wednesday after two days of Federal Open Market Committee meetings.

And after that, markets expect the central bank to back down from its hawkish stance to curb inflation and slow the pace of rate hikes unless the data continues to show stubbornly high inflation.

“We expect Chairman Jerome Powell… to use the post-FOMC press conference to lay the groundwork for a slower pace of rate hikes,” Capital Economics senior U.S. economist Michael Pearce wrote in a note. to customers. “It could do this by acknowledging the slowdown in the real economy already underway and highlighting the lags between slowing economic activity and easing price pressures.”

Some officials said at the September meeting that the central bank may slow the pace of rate hikes at some point and assess the impact of previous rate hikes on inflation, according to minutes of the meeting.

Pearce says that as interest rates rise above a neutral level — a level that neither stimulates nor slows economic growth — he expects Fed officials to talk about balancing the raising rates to cool inflation with the risk of raising rates too high and precipitating a recession.

San Francisco Fed President Mary Daly recently set the stage for the Fed to slow the pace of rate hikes, saying the Fed should talk about “stepping down” at some point when inflation data will show signs of slowing down.

“We could find ourselves, and the markets have certainly priced that in, with another 75 basis point increase,” Daly told a meeting of the University of California, the Fisher Center for Real Estate & Urban Economics’ Policy Advisory Board of Berkeley last week. “But I would really recommend people not to take that off and think, well, it’s 75 years forever.”

The data seems to point to signs that domestic demand is being pushed down by higher interest rates. Final sales to private domestic buyers – a measure of consumer and business spending used to gauge underlying demand in the economy – rose at an annual rate of 0.1% in the third quarter after rising 0, 5% in the second quarter and 2.1% in the first quarter.

WASHINGTON, DC - OCTOBER 14: U.S. Federal Reserve Chairman Jerome Powell attends an IMFC (International Monetary and Financial Committee) meeting at the IMF and World Bank Annual Meetings at IMF Headquarters on October 14, 2022 in Washington, DC.  Secretary Yellen will hold a press conference and answer questions later today.  (Photo by Drew Angerer/Getty Images)

U.S. Federal Reserve Chairman Jerome Powell attends a meeting of the IMFC (International Monetary and Financial Committee) at the IMF and World Bank Annual Meetings at IMF Headquarters on October 14, 2022 in Washington, DC. (Photo by Drew Angerer/Getty Images)

Imports, meanwhile, fell in the third quarter by nearly 7%, pointing to sluggish consumer spending.

The labor market is also cooling, with job vacancies down sharply in August and a declining rate of job quits as fewer new jobs are created on a monthly basis. Economists forecast Friday’s jobs report will show 200,000 non-farm payrolls added in October, down from 263,000 jobs in September and down from the monthly average of 420,000 in 2022.

There are also signs below the surface that inflationary pressures are easing. The Employment Cost Index showed private sector wages and salaries rose 1.2% in the third quarter, from 1.6% in the second, dragging down the annual growth rate by 5.7% at 5.2%.

The Fed is also aware of the lags in accounting for rents in the consumer price index. As landlord rents and equivalent rents continue to accelerate in official CPI data, Apartment List, a private rent data provider, showed rent growth falling to 6% in October, after a peak of 18%.

“It’s still too fast for comfort,” Pearce noted, “but the direction of travel is clear and strongly suggests that a significant slowdown in CPI shelter inflation is finally ahead.”

Official inflation measures are not falling as quickly as officials hope. The Fed’s preferred measure of inflation – the consumer expenditure price index (PCE) excluding volatile food and energy prices – rose 5.1% in September and 6.2% on a global basis. That’s down from 7%, but still far from the Fed’s 2% inflation target. And the consumer price index – excluding volatile food and energy prices, a more rigid measure of inflation – rose 6.6% in September, after accelerating 6.3% in August. and 5.9% in July.

“The November FOMC meeting is not about the November policy rate decision,” Bank of America analyst Michael Gapen wrote in a research note to clients. “Instead, the meeting is about future policy rate directions and what to expect in December and beyond.”

The Fed projects that interest rates will need to rise to between 4.5% and 5% next year to bring inflation back toward the central bank’s 2% target. Once the key rate reaches what the Fed believes is a sufficiently restrictive level, it would hold that level for “a period of time” until there is “irrefutable” evidence that inflation is on the way. to return to 2%.

“PCE, GDP data all points in the direction of the 50 basis point slowdown for the December meeting,” Wilmington Trust chief economist Luke Tilley told Yahoo Finance. “There is even the possibility of slowing more to 25 basis points depending on the data. I expect language from President Powell that guides the markets towards a slowdown.

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