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Smaller Rate Hike Likely by Federal Reserve as Inflation Cools

Federal Reserve officials are widely expected to raise interest rates by a quarter point at their meeting this week, further slowing the aggressive pace of rate hikes in 2022 as they wait to see How fast will inflation come down?

The gradual move will give Fed officials more time to assess how high rates need to rise and how long they need to remain high to fully moderate inflation, which is both emerging and emerging. There are important questions. The answers will help determine how much damage the Fed inflicts on the labor market and the broader economy in its quest to control price increases.

Central bankers last year raised interest rates from near zero to above 4.25 percent, and are expected to raise rates on Wednesday to a range of 4.5 to 4.75 percent. Investors will become more attuned to what might happen next, and will be analyzing the Fed’s 2 p.m. statement and the subsequent news conference by Fed Chairman Jerome H. Powell for clues about the future.

Fed officials predicted in December that they would raise rates above 5 percent in 2023, then keep them higher for the rest of the year. But incoming data will tell how high the Fed raises rates and for how long it keeps them at that level.

Since the Fed’s last decision, inflation has slowed meaningfully, and economy data suggests consumers are becoming more cautious and spending less. Anecdotal evidence suggests that buyers may be more sensitive to prices, making it difficult for companies to continue offering large price hikes. At the same time, the job market remains very strong, and economists and central bankers warn that a rebound in growth and inflation is possible. This is likely to make the Fed wary of prematurely declaring victory on inflation.

“They’re going to be cautious on inflation — I don’t think they’re going to break out the ‘mission accomplished’ banner just yet,” said Gennady Goldberg, rates strategist at TD Securities. “If they don’t send a signal that they really want to get inflation under control, the market may interpret it more as a signal that they have. That’s not the message they want to send.”

Wall Street will be particularly focused on one word in the Fed’s policy statement: “running.” In recent months, central bankers have said that “continued increases in the target range would be appropriate.”

Inflation FAQ

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What is inflation? Inflation is the loss of purchasing power over time, meaning your dollar won’t be worth as much tomorrow as it was today. It is usually expressed as the annual change in the prices of everyday goods and services such as food, furniture, clothing, transportation, and toys.

What is the reason for inflation? This may be the result of increasing consumer demand. But inflation can also rise and fall based on developments that have little to do with economic conditions, such as limited oil production and supply chain problems.

Is Inflation Bad? It depends on the circumstances. Rapid price increases are troublesome, but moderate price gains can lead to higher wages and job growth.

Can inflation affect the stock market? Rapid inflation usually spells trouble for stocks. Financial assets in general have historically performed poorly during inflationary booms, while tangible assets such as homes have held their value better.

The question is whether the term will remain relevant as policy makers are likely to stop raising rates at some point in the coming months. But some economists believe officials on the policy-making Federal Open Market Committee will keep it in hopes of avoiding signaling to Wall Street that their efforts to control inflation are over.

“While the FOMC may be willing to adjust this language as it nears a pause, doing so at this meeting will widen the gap between markets and the Fed,” Deutsche Bank’s Matthew Luzzetti and colleagues wrote in a meeting. There are risks in widening and narrowing down the risks.” Preview.

The Fed has been at loggerheads with financial markets in recent months. Central bankers have insisted that they have to do more on the policy front to ensure that they can bring inflation fully under control. Yet markets have begun to expect that the Fed will soon stop raising rates — halting once they reach the 4.75 to 5 percent range — and then cut borrowing before the end of 2023. Let’s start cutting costs.

When investors anticipate less aggressive Fed policy, it matters for the real economy. Those market expectations lead to lower interest rates, such as on home loans. That, in turn, could help bring economic activity back even as central bankers try to slow it down.

But there are signs that the economy is playing out broadly the way the Fed expects, which is why many investors think relatively little policy adjustment will be needed. Inflation based on the latest reading of the Fed’s preferred price index eased from 5.5 percent in November to 5 percent in December.

That’s more than double the Fed’s target of 2 percent growth on average over time, but price increases across a range of measures have been slowing for six months now and moderation shows signs of widening. Also, demand seems to be finally slowing down.

Many economists expect the decline in demand to continue. Higher interest rates mean it’s costlier to borrow money to buy a home or expand a business, which should slow both large purchases and the labor market. Wage growth should slide because of the worsening hiring situation — early signs suggest the recession is already underway, and the Fed will receive another important reading on employee wages on Tuesday. Weak pay will add further weight to the profit expenditure.

But other factors can shore up the economy’s resilience, even in the face of Fed rate moves. Consumers still have a reserve of savings left over from the early days of the pandemic, although it is shrinking. The unemployment rate is at 3.5 percent, its lowest level in half a century, and many workers are experiencing faster than normal wage gains.

That’s why the Fed is taking a cautious approach and trying to avoid prematurely backing down from its attack on inflation.

“We don’t want to be fake,” Fed Governor Christopher Waller said in his recent speech.

It will focus exclusively on Mr. Powell’s post-meeting news conference this week. Mr Powell may join some of his colleagues – including Lael Brainard, the vice chair – in stressing the positive recent developments on inflation and the economy may be headed for a soft landing, in which inflation cools without an outright recession. She goes.

“It is possible that a sustained recovery in aggregate demand could facilitate continued easing of the labor market and a reduction in inflation without significant loss of employment,” Ms. Brainard said in a recent speech.

Or he could focus more on signs that the economy remains strong, warning that the Fed needs to be steadfast in its efforts to rein in consumer and business demand and underlining that services inflation , in particular, is likely to prove stubborn without a notable slowdown. labour market. John C. Williams, president of the Federal Reserve Bank of New York, spoke along those warrior lines.

“It seems to me that demand is still very strong relative to available supply,” Mr Williams told reporters at a recent event, and the “worry” is that this will continue to put pressure on inflation.

Many economists expect Mr. Powell to stick to a more inflation-focused line in hopes of underscoring the central bank’s commitment to combating inflation. But investors will be watching for any signs on which narrative is turning — an emphasis on progress toward low inflation, or a focus on how much more work remains to be done.

“We expect the division of opinion on the committee to become more pronounced as 2023 progresses,” said Sonia Meskin, head of US macro at BNY Mellon Investment Management.

Officials are also mulling the idea that the Fed could stop raising interest rates, then resume once the economy shows signs of picking up again – something about which Mr Powell faces questions. May have to Laurie Logan, president of the Federal Reserve Bank of Dallas, suggested as much in recent comments.

“I believe we should not lock in the highest interest rate,” Ms. Logan said. “Even after we have sufficient evidence to prevent a rate hike, we will need to remain flexible and raise rates further if the economic outlook or financial conditions require it to change.”

Because it’s the first meeting of 2023, the Fed will get new voting members: four of the central bank’s 12 regional presidents rotate in and out of voting seats each year, while the president in New York and the Fed’s seven governors in Washington call a constant. . This year, Ms. Logan from Dallas, Auston Golsby from Chicago, Neel Kashkari from Minneapolis and Patrick Harker from Philadelphia will be voting.




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