Fed Expected To Raise Rates Again, The Bigger Question Is What Follows

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by Forbes

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Fed Expected To Raise Rates Again, The Bigger Question Is What Follows

The U.S. Federal Reserve is expected to announce a decision to raise rates 0.25-percentage-points at 2pm E.T. on Wednesday, May 3. Interest rate futures and recent comments by Fed decision-makers have largely confirmed that outcome. Any other rate decision would surprise markets.

However, the bigger question is what follows at future Fed meetings in 2023. Financial markets fear a looming recession and see the Fed cutting rates in response, however the Fed have signaled that they intent to hold the line with high rates until inflation is clearly beaten.

In recent months inflation has dropped well below the peak levels of 2022 on most metrics. Yet still remains well above the Fed's target. Part of the reason for that is housing costs, which make up a large proportion of the Consumer Price Index, and are continuing to rise using the CPI's methodology, even if most industry sources show home prices declining. The Fed has signaled it wants to see inflation under control before it contemplates cutting rates. Currently, inflation is running at a 5% annual rate compared to the Fed's 2% goal. That's too high in the Fed's view.

Still fixed income markets imply a pivot is coming, that's market-speak for the idea that the Fed will start cutting rates. The CME's Fedwatch tool, which tracks the implied expectations of fixed income markets for upcoming Fed decisions suggests that rates will end up lower in December than in May 2023. Fixed income markets have moderated their view in recent weeks, now seeing fewer cuts in 2023 than previously.

However, the markets and the Fed still have divergent outlooks for monetary policy. Over recent months, the Fed has generally won out where markets and the Fed have disagreed, however a U.S. recession could change that picture.

This week's meeting will not provide the Fed's latest interest rate forecasts for 2023, that only happens at alternate meetings and the Summary of Economic Projections will next be updated in June. However, at the press conference after the rate decision, the market will be looking for signs that Chair Powell's resolve in holding rates high is waning. They may be disappointed.

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