22 SEPT, 2023
By Constanza Ramos
The Federal Reserve decided not to raise interest rates at its meeting yesterday and to keep them at 5.5%. However, Fed Chairman Jerome Powell does not rule out a possible hike this year. Of the 19 members of the Open Committee, 7 say there will be no further hikes in 2023, while 12 say the opposite. Powell has not offered definitive confirmation. In general terms, they expect interest rates to remain at higher levels for an extended period.
Below you can read the first reactions from international fund managers.
The Federal Reserve kept interest rates unchanged yesterday but sent a more hawkish message about the future path of monetary policy. To be sure, the central bank is increasingly optimistic about the prospects for a soft landing, as evidenced by its more optimistic growth and unemployment forecasts. Indeed, FOMC members even allowed themselves the luxury of revising downwards their forecasts for core CPI inflation later this year. However, the underlying message is that the fight against inflation is not over, as members are still targeting another rate hike this year, with notably smaller cuts expected in 2024.
These messages should temper market attempts to discount the end of the tightening cycle at this point, helping to maintain the tight monetary and financial conditions that the Fed believes are necessary to bring inflation back to target. However, their forecasts are not set in stone, and the press release makes it clear that future moves will be data-dependent and not predetermined. Therefore, these signals are useful for the Fed to keep its options open, and probably the bar for skipping the last hike we expect in November in case growth or inflation slows in the coming months.
We expect the Fed to keep interest rates at 5.50% for the remainder of 2023, before gradually reducing them to 3.75% by the end of 2024.
This scenario is based on the fact that GDP growth looks set to strengthen further in the third quarter, as a recession now seems unlikely. But stronger growth leads us to expect a more modest reduction in inflation, from 4.2% in 2023 to 2.8% in 2024 for the US.
Thus, higher expected growth and tighter inflation have led us to delay our forecast for the Fed's first rate cut from December this year to March next year.
The US Federal Reserve held policy rates steady and signaled its intention to keep them tight for longer than previously thought. Real GDP growth has been much more resilient, leading to substantial revisions in the economic projections of the members of the Federal Open Market Committee (FOMC). The new projections imply a marked acceleration in productivity and a rise in the natural rate of short-term interest, bringing inflation back down without much increase in the unemployment rate, or below-trend growth.
The pandemic and the government's response have created a very unique set of factors that are affecting the US economy. Historically, when rates have been raised so high and so fast to bring inflation back to the Fed's 2% target, the economy has tended to fall into recession. Until today, Fed policymakers have implicitly admitted this fact by forecasting a rise in the unemployment rate that has historically been associated with recession. However, with this new forecast, the Fed illustrates its growing confidence that this time is different.
We are more concerned about the near-term sustainability of the recent 2% real GDP growth rate. While a soft landing is certainly possible, i.e. bringing inflation back to target without triggering a recession, we think the probability of a recession is a coin flip. Tight monetary policy is expected to remain in place for a prolonged period and to slow economic activity over time. Positive economic surpluses from the pandemic, including high excess household savings, are drying up, and this has probably lengthened the lags through which monetary policy acts, not eliminated them. Credit conditions are tight and borrowing costs are higher for the marginal borrower. The economic effects of this situation are expected to increase over time as debt is rolled over at these new higher rates.
As expected, the Federal Open Market Committee decided not to raise rates at its September meeting and maintained the hawkish formulation of monetary policy by stating that "further tightening of policy may be appropriate. Much more significant, however, were the movements in the Summary of Economic Projections (SEP), which showed that the Committee's expectations of where interest rates will go in 2024 rose from 4.6% at the June meeting to 5.1% today. Together with its updated expectations for core inflation in 2024, which remained stable at 2.6%, the Committee's expectations for real rates in 2024 increased by 50 basis points to 2.5%. This, combined with the fact that 12 out of 19 participants still believe that a further hike is warranted, is indicative that the FOMC remains very hawkish.
At the press conference, Powell underlined the hawkish tone of the Committee's forecasts, while reserving the maximum option of letting the data dictate the course of action. He stressed that the Committee is waiting to be convinced that inflation is coming down on a sustained basis while noting that "they need to be confident that we are on an appropriately tight stance". This is consistent with our view that the Committee's focus is shifting from an emphasis on "higher" to "longer", and corroborates our view that the hurdle to pivot remains very high.
By RankiaPro Europe
By Marco Mencini