The Federal Reserve is expected to deliver its 11th rate hike in just over a year later today in Washington, but markets may need to wait several weeks, and possibly longer, before finding true clarity on the central bank's longer-term policy aim.
The CME Group's FedWatch tool, a real-time tracker of interest rate bets, suggests traders are pricing in a 98.9% chance that the central bank lifts its benchmark Fed Funds rate by a quarter point, to a range of between 5.255 and 5.5%, the highest in more than two decades, later today in Washington.
Beyond that, however, markets are indicating no better than a 37% chance that Powell and his colleagues will follow-through with another increase between now and the end of the year, as signaled in both the Fed's recent "Summary of Economic Projections" -- otherwise known as the "dot plots" -- and minutes of its last policy meeting in early June.
"Quite a strong majority (of Powell's Open Markets Committee colleagues) wanted two or more rate hikes and the reason for that is that was, if you look at the data over the last quarter, there was stronger-than-expected growth, a tighter-than-expected labor market and higher-than-expected inflation," Powell told an ECB symposium in late June. "That tells us that while policy rates are restrictive, they may not be restrictive enough."
"We've got a very strong labor market where jobs are being created with solid wage gains and that's driving real incomes, which is driving spending and in turn more demand," Powell said. "We have only made a decision about the June meeting, but I wouldn't take moving at consecutive meetings off the table at all."
June jobs growth, however, was the weakest in three years, and wage growth has essentially stalled between 0.3% and 0.4% for the past nine months.
Slowing inflation, which eased to 3% last month, as well as a weakening economy could also compel the Fed to take its foot off of the rate hike accelerator, although a number of data points between now and the central bank's meeting in September -- as well as Powell's keynote speech at the Jackson Hole symposium in August -- could alter or confirm the Fed's policy path.
The Fed often stresses that each of its meetings are "live," in the sense that rate decisions can be taken even absent the publication of new economic projections, but the fact that Powell and his colleagues determined the need for "two or more" rate hikes over the back half of the year last month suggests the Fed won't be swayed by the recent downtick in inflation pressures or the resilience in the broader economy.
"We expect today’s inevitable rate hike to be the last, but we do not expect Chair Powell to say so," said Ian Shepherdson of Pantheon Macroeconomics. "Powell has made it abundantly clear, on numerous occasions, that he needs to see the data move decisively in the right direction for a few months before he will be willing to declare victory."
That likely leaves Powell with a lot of open road over the next eight weeks, with two more readings of the Fed's preferred inflation gauge, the PCE Price index, two more labor market reports and detailed second quarter GDP data, before the next policy meeting in September, when the Fed will also release a fresh round of growth and inflation projections.
It also leaves him with a difficult task at today's press conference in Washington, slated for 2:30 pm Eastern time, as he attempts to tamp-down expectations that the Fed has ended its rate-hiking cycle while ensuring that he doesn't sound overly hawkish in the face of receding inflation pressures.
"It’s a fine line in communication,” said Nigel Green of London-based financial advisor deVere Group. "We expect Chair Jerome Powell will talk tough at this meeting, warning the fight against inflation is not done, that CPI is still way off target, and how this damages the economy.
“He’s right of course. But much of this will be ‘theatre’ in order to intentionally spook the markets," he added. "The war against inflation is being gradually won, but officials at the Fed will not want markets ‘to get ahead of themselves’, become complacent, and make their job of bringing down the rate of price growth harder."
Another factor Powell will need to consider, and markets will likely acknowledge, is that headline inflation figures may not continue to fall as quickly over the coming months, given that year-on-year measurements will be based on decelerating levels.
That could mean CPI inches back to the 4% level by the end of the year, twice the pace of the Fed's preferred target.
John Lynch, CIO for Comerica Wealth Management in Charlotte, N.C., suggests investors look at what's happening in the bond market in order to gauge the level of confidence in the Fed's rate path projections.
"Following the banking turmoil in March, the yield experienced a sharp decline, but has since climbed 80 basis points over the past two months," he said. "We view this signal as more reflective of Fed Policy and the reality that it might require an extended period of elevated interest rates to bring inflation in-line with the Fed’s 2% target."
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