This week, the Fed would commence its first meeting of the year which would conclude on February 1. While analysts are unanimous that chair Jerome Powell would announce a 25-basis point rate hike, could there be a surprise?
The Fed has been on a rate hiking spree not seen since the 1980s. It has raised rates at every meeting since March 2022 after previously ending its monthly bond-buying program, widely referred to as tapering.
The US central bank started with a 25-basis point rate hike but raised rates by 50-basis points at the May meeting. After that, it raised rates by 75 basis points at the next four consecutive meetings. However, in December it raised rates by 50 basis points which was in line with what the markets were expecting.
The Fed raised rates to 4.25-4.50% last year. The December dot plot showed that FOMC members see rates rising to 5-5.25% by the end of 2023.
Markets are unanimous about a 25-basis point hike at the next Fed meeting
Typically, analysts’ opinion tends to be mixed ahead of Fed meetings. However, ahead of the upcoming meeting, markets are almost unanimous that the Fed would raise rates by 25 basis points.
The minutes of Federal Reserve’s December meeting show that the US central bank is still worried about inflation and not giving up its fight. The minutes stated, “Participants generally noted that the uncertainty associated with their economic outlooks was high and that the risks to the inflation outlook remained tilted to the upside.”
They added, “Participants cited the possibility that price pressures could prove to be more persistent than anticipated, due to, for example, the labor market staying tight for longer than anticipated.”
Fed is not giving up its fight to tame inflation
FOMC members were also apprehensive that given the step down in December rate hikes, might misread its resolve to fight inflation. The minutes said, “A number of participants emphasized that it would be important to clearly communicate that a slowing in the pace of rate increases was not an indication of any weakening of the Committee’s resolve to achieve its price-stability goal or a judgment that inflation was already on a persistent downward path.”
US inflation is still way above the 2% that the Fed targets even as the CPI has fallen for six straight months and fell to 6.5% in December. The metric peaked at 9.1% in June. Also, the CPI as well as WPI fell on a monthly basis in December.
Inflation has come off its 2022 highs
The PCE (personal consumption expenditures) also rose at an annualized 5% in December and has come off its 2022 highs of 7%. The core PCE, which excludes the volatile food and energy prices rose at an annualized pace of 4.4%. It peaked at 5.2% in September.
The Federal Reserve’s December minutes stated, “Participants generally observed that a restrictive policy stance would need to be maintained until the incoming data provided confidence that inflation was on a sustained downward path to 2 percent, which was likely to take some time.”
They added, “In view of the persistent and unacceptably high level of inflation, several participants commented that historical experience cautioned against prematurely loosening monetary policy.”
Fed mostly spooked markets in 2022
Meanwhile, the Fed mostly spooked markets with not only the rate hikes but also its commentary. On multiple occasions, Powell has cautioned against a premature reversal in its rate hike cycle.
Many have warned that the Fed risks pushing the US economy into a recession with its rate hikes. Rakeen Mabud of progressive think tank Groundwork Collaborative said, “It is abundantly clear that we don’t need mass joblessness to tamp down inflation.” Mabud added, “Inflation is cooling and our economy remains strong. Yet the Fed is hell-bent on boosting rates further and putting millions of workers in jeopardy.”
Recession fears rise
Recession fears have risen and US banks like Wells Fargo, Bank of America, and JPMorgan see a mild recession as the base case scenario for this year.
The Fed too acknowledged recession risks in its December minutes. The minutes said, “the sluggish growth in real private domestic spending expected over the next year, a subdued global economic outlook, and persistently tight financial conditions were seen as tilting the risks to the downside around the baseline projection for real economic activity, and the staff still viewed the possibility of a recession sometime over the next year as a plausible alternative to the baseline.”
Powell is meanwhile still hopeful that the US economy can avert a recession and the US central bank can steer the world’s largest economy towards a soft landing.
US stocks rose in January after starting the year on a negative note. Markets now next look forward to the Fed’s meeting and the flurry of tech earnings this week. Powell spoiled the party multiple times last year. Could he play the party pooper yet again? We’ll soon get to know.