Fed Raises by 75-bps But Signals More Normal Hikes Possible, PCE Comes in Hot
Fed Raises by 75-bps But Signals More Normal Hikes Possible, PCE Comes in Hot
The Fed’s July meeting was on Wednesday and, as expected, the FOMC raised rates by 75 bps to a range of 2.25%-2.5%. This was the second consecutive jumbo rate hike. The two back-to-back hikes of 75 bps were actually the most stringent consecutive action since the beginning of the 1990s when the Fed began using the rate as its primary mechanism of implementing monetary policy. The Fed Funds rate is now the highest it’s been since the end of 2018. Unlike the last large rate hike the Fed received unanimous approval.
While markets priced in a potential 100 bps hike after June’s hot CPI print, they subsequently retreated. Chairman Powell seemed to talk tough on inflation, saying a recession was an acceptable consequence if it was needed to get price pressures under control. On the flip side, he also said that 75 bps was still on the table when directly asked. The Fed’s annual meeting at Jackson Hole is in August and may provide additional evidence on the Fed’s thinking.
The Fed’s statement had some changes. It started out by acknowledging the economy was slowing compared to the prior meeting. It mentioned that job gains have still been “robust” in recent months. Though this language was added, Chairman Powell also added that he did not believe the economy was currently in a recession. Officials continue to describe inflationary pressure as “elevated” and “broad.” Powell explained that in his mind, a recession is a broad-based decline that’s sustained for more than a few months. He mentioned the strong labor market made him question the GDP data’s relevance.
The Fed is continuing its quantitative tightening as well. Its balance sheet has declined by only about $16 billion so far. The cap for the value of securities rolling off is $47.5 billion right now but it will continue to rise to $95 billion a month in September. This is a pretty high level and may necessitate the Fed outright selling securities in the open market. Markets currently expect the FOMC to hike 50 bps in September. The Fed has said they will be data-dependent and act accordingly. Powell is looking for “compelling” evidence that inflation is cooling.
This search was frustrated by a data release two days later. On Friday, the Fed’s preferred gauge of inflation came in hot. Prices went up a full 1% on a MoM level which was the fastest increase in 17 years. Stripping out food and energy, the rise was 0.6%. The release showed broad-based price pressure. The employment cost index release today also showed that workers’ salaries continued to rise fast in the second quarter at a record level of 1.6% MoM. Consumer spending also continued to rise, casting doubt on whether a true recession is ongoing despite the technical definition being met.
Subsequent to the hot release, Fed futures began to price in a higher likelihood of a subsequent 75bps hike in September. Don’t take these too seriously, as they routinely have turned on a dime in the past few months. However, the tendency is for the Fed to raise in line with market expectations, so they are very material right before a meeting. However, they will almost surely move in one direction or another when the market gets more visibility at Jackson Hole.
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