Markets Now See Larger Fed Hike This Month

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Fed Chair Jerome Powell’s flamboyant testimony this week means the market expects the Fed to raise rates 0.5-percentage-point on March 22. Notably, fixed income markets now see an 8 out of 10 chance the Fed makes a big move in rates this month. , Just last week, markets saw it as more likely that the Fed would make a smaller 0.25-percentage-point move. This is a sudden change as the Fed meeting approaches.

inflation concerns

There are two main reasons for the change, both related to inflation. First, inflation in January came higher than expected. Now, Powell noted that, in part, that could be due to unseasonably warm weather, but there are concerns that recent trends that have eased inflation in the second half of 2022 may now be taking a toll. , and as a result inflation has remained above 2%. , the Fed’s annual inflation target.

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Furthermore, the Fed has been concerned for months that services inflation was running hot, especially as Powell noted, “There is little sign of deflation in the core services category except for housing, which accounts for more than half of core consumer spending.” eat for more.” So headline inflation has not fallen enough, and services inflation remains high, hence the Fed’s concern.

Will we see a big increase?

Ultimately, fed funds interest rates are set by Fed policymakers, not market expectations, but the Fed closely manages market expectations. Minutes from the Fed’s February meeting also showed that some policymakers may have been comfortable with a 0.5-percentage-point increase, when in fact a 0.25-percentage-point increase was in place.

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There are still some important economic data released between now and the Fed’s decision on March 22 that could change the Fed’s assessment if the numbers deviate from expectations. Most importantly, we will see February CPI inflation data on March 14, but also more data on the jobs market and retail sales data ahead of the Fed meeting. Nowcast has the February CPI running at around 0.5%, so if that forecast materializes at an annual inflation rate of 6%, it could be justification enough for the Fed to hike rates by 0.5-percentage point, especially if other Data suggest the economy is running hot.

fear of recession

Perhaps a bigger concern, however, is if the Fed’s recent rate hikes haven’t adequately controlled inflation. This could mean that a recession would be needed to control prices. That topic was the subject of a tense exchange between Chair Powell and Senator Elizabeth Warren during Powell’s testimony. Powell noted under questioning that the increase in unemployment levels recently forecast for 2023 by the Fed has typically led to recessions during America’s post-war history.

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