Federal Reserve Chairman Jerome Powell speaks during a House Financial Services Committee hearing on the “Federal Reserve Semi-Annual Monetary Policy Report” on Capitol Hill in Washington, U.S., March 6, 2024.
Bonnie Cash | Reuters
If there was any doubt before, Federal Reserve Chairman Jerome Powell has largely cemented the likelihood that there will be no interest rate cuts any time soon.
Now Wall Street is wondering whether the central bank will cut interest rates at all this year.
That’s because Powell said Tuesday there was “no further progress” in bringing inflation back to the Fed’s 2 percent target, meaning “it will likely take longer than expected” to gain enough confidence for a renewed easing of monetary policy.
“They have the economy right where they want it. They now only focus on the inflation numbers. The question is, “Where is the bar here?” said Mark Zandi, chief economist at Moody’s Analytics. “In my opinion they need two, probably three consecutive months of inflation numbers consistent with that 2% target. If that’s the benchmark, the earliest they can reach that goal is September. I just don’t see any rate cuts before then.”
With inflation estimated at around 3% in most figures and no significant changes for several months, the Fed is in a tough spot on the final road to its goal.
Market pricing for rate cuts has been extremely volatile in recent weeks as Wall Street chased the Fed’s dovish rhetoric. As of Wednesday afternoon, traders were pricing in about a 71% chance that the central bank will actually most likely wait until September, with the implied probability of a rate cut in July at 44%, according to CME Group’s FedWatch Indicator.
As for a second rate cut, there was a move toward one in December, but that remains an open question.
“Right now I’m anticipating two rate cuts – one in September and one in December, but I could easily see one rate cut, and that would be in November,” said Zandi, who believes the presidential election is for Fed officials who insist on it , could be included in the equation and cannot be influenced by politics.
“Real risk” that there will be no cuts by 2025
Insecurity has spread to the streets. The market’s implied odds of no cuts this year were around 11% as of Wednesday, but the possibility cannot be ignored at this point.
For example, economists at Bank of America said there is a “real risk” that the Fed will not cut interest rates until March 2025 at the earliest, although for now they are still using a December forecast for the only cut in those rates this year. At the start of 2024, markets had priced in cuts of at least six quarter percentage points.
“We expect policymakers will not feel comfortable starting the austerity cycle in June or even September,” BofA economist Stephen Juneau said in a note to clients. “In short, this is the reality of a data-dependent Fed. Given that inflation data beat expectations earlier in the year, it is no surprise that the Fed would reject any urgency to cut rates, especially given the strong economic data.”
Of course, there is still hope that inflation data will fall in the next few months, giving the central bank room to ease.
Citigroup, for example, still expects the Fed to begin easing in June or July and cut interest rates several times this year. Powell and his fellow policymakers will be “pleasantly surprised” by inflation data in the coming months, Citi economist Andrew Hollenhorst wrote, adding that the Fed is “ready to cut rates if core inflation is slower year-over-year or shows signs of slowing.” “There is a weakness.” in activity data.”
Elsewhere, Goldman Sachs postponed the month in which it expects monetary policy easing, but only from June to July, as “the broader disinflationary narrative remains intact,” wrote Jan Hatzius, the firm’s chief economist.
There is danger
If true, then “the pause on rate cuts would be lifted and the Fed would move on,” wrote Krishna Guha, head of the global policy and central bank strategy team at Evercore ISI. But Guha also noted the wide range of policy possibilities that Powell opened up in his remarks on Tuesday.
“We believe this still leaves the Fed uncomfortably dependent on data points and very vulnerable to being cut from three to two to one if near-term inflation data doesn’t play along,” he added.
The possibility of a stubborn Fed increases the possibility of a policy mistake. Despite the robust economy, prolonged higher interest rates could threaten labor market stability, not to mention areas of the financial sector such as regional banks, which are exposed to fixed income portfolio duration risk.
Zandi said the Fed should have already lowered inflation now that it is well off its mid-2022 peaks, adding that housing-related factors are basically the only thing holding the central bank back from its 2% inflation target.
A policy mistake by the Fed “is the biggest risk to the economy at this point. They have already fulfilled their mandate for full employment. They have pretty much fulfilled their mandate on inflation,” Zandi said.
“Things are happening and I think we have to be humble about the financial system here,” he added. “You run the risk of breaking something. And for what purpose? If I were on the committee, I would strongly argue that we should leave now.”
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2024-04-17 17:26:31
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