(Bloomberg) — Federal Reserve officials could find reasons to raise interest rates by a full percentage point next week if they decide to look seriously enough, even though the base case still looks like 75 basis points.
While most economists see a smaller – but still aggressive – rally as the most likely outcome of the central bank’s September 20-21 meeting, the massive move is not a zero risk following the heated reading of core consumer inflation in August. . Investors attribute a roughly 24% chance of that happening, according to interest rate futures pricing, and some Fed watchers see the probability as higher.
One percent should be on the table. “They will probably stick to 75, but it will be soon because you have to think about where they started,” said Diane Sonk, chief economist at KPMG LLP.
After two consecutive increases of 75 basis points in June and July, the Fed has already raised interest rates by 225 basis points since it began raising rates in March.
Next week’s increase – and policymakers from President Jerome Powell and onwards have made clear that they intend to continue – will raise the level above the target reference rate to either 3.25% or 3.5%, assuming they move 75 or 100 basis points. That would put rates in an area where policy is working to constrain price pressures.
“They know they have to tighten up to derail inflation and they haven’t started doing that yet,” Sonk said. “They are playing catch-up.”
Further tightening at this month’s meeting should send a powerful message to the markets, which has frustrated officials at times in the past few months. Markets rebounded after the July Fed meeting, and Powell’s comments at the next press conference were seen as pessimistic, although he left the door open for a “larger” rate hike if necessary.
The persistence of stubborn inflation, combined with strength in other parts of the economy including the labor market, is also strengthening the case for a more aggressive Fed in some viewpoints. Nomura Securities, which expects a 100 basis point rise next week, said the upward risks to inflation in the August report will prompt officials to escalate them.
Other economists say that while a massive move isn’t impossible, persistent high inflation will instead cause the Federal Reserve to keep raising interest rates for longer, pushing the final rate of this tightening cycle all the way up. But it won’t rush it, despite the better-than-expected increase in core CPI for August.
“Even if CPI does not change the FOMC’s basic approach, it is still an important incremental change, a change that argues for more forward loading and perhaps a slightly higher final rate than otherwise,” Lawrence Meyer, former Fed Governor, wrote. In a note earlier this week.
The median estimate of FOMC participants in June, when the central bank published its latest forecast, was for rates to peak next year at 3.8%. That is likely to rise in the updated forecast on September 21, with some seeing it shift to 5%.
“There is no doubt that the inflation data will prompt the Fed to be more aggressive over the next several meetings,” Roberto Burley, head of global policy research at Piper Sandler & Co., wrote in a note. “With inflation continuing to prove itself more than expected, and given that most FOMC members are likely to agree with the market that a higher peak rate is required, it is not clear that getting there more slowly and gradually is preferable to getting there more quickly. .”
While a bigger rally this month should help policymakers reach the final interest rate faster, some economists are concerned that it could lead markets to anticipate a rate cut sooner than policymakers intend.
Resisting expectations of easing in the coming year is not just a matter of aligning expectations, but of exerting more influence on long-term interest rates: essentially reversing the ‘low-price long-term’ strategy that many market participants have grown up on, wrote Michael Feroli, Chief US Economist at JPMorgan Chase & Co (NYSE:NYSE), noted.”In this regard, a move of 100 basis points next week may only encourage those who see easing next year after the Fed’s accelerated late-22 hike.”
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