Federal Reserve Chairman Jerome Powell indicated the need for further rate hikes, noting the strength of the economy and renewed inflation risks, but added that the recent surge in bond yields, as well as the lag effect of past policy tightening, are having their desired impact.
The balanced tone struck in prepared remarks for an event hosted by the Economic Club of New York, suggest a further indication of the Fed's 'wait and see' stance on near-term rate hikes, following a series of data releases showing stronger-than-expected retail sales, a resilient job market and above-trend economic growth.
That may provide some relief for investors who've been tracking the recent surge in Treasury yields, which hit a series of fresh multi-decade highs this week, would push the Fed further into its higher-for-longer' policy stance that's creating turmoil in global markets.
"We are attentive to recent data showing the resilience of economic growth and demand for labor" Powell said. "Additional evidence of persistently above-trend growth, or that tightness in the labor market is no longer easing, could put further progress on inflation at risk and could warrant further tightening of monetary policy."
"Financial conditions have tightened significantly in recent months, and longer-term bond yields have been an important driving factor in this tightening," Powell added. "We remain attentive to these developments because persistent changes in financial conditions can have implications for the path of monetary policy."
Benchmark 2-year note yields, which are highly-sensitive to changes in interest rate forecasts, were down 5 basis points on the session following the release of Powell's remarks, and changing hands at 5.184%, but are still up around 15 basis points this week and hit a fresh 2006 high of 5.253% in overnight trading.
Higher up the curve, 10-year note yields eased to 4.921% while the dollar index, which tracks the greenback against a basket of six global currencies, slipped 0.39% to 106.141.
Market forecasts currently suggest the Fed will hold rates steady when its next two-day policy meeting wraps up on Nov. 1, with the odds of a December hike pegged at around 37%.
Those odds shift notably, however, into January, with the CME Group's FedWatch indicating a near 45% chance of a least a quarter point rate hike, which would take the Fed Funds rate to a range of between 5.5% and 5.75%.
With stronger-than-expected jobs data, a resilient consumer and an economy running at a 5.4% growth clip, Powell needed to reiterate the need for higher benchmark lending rates over the coming months, which will remain in place for some time, in order to tame the ensuring inflation pressures those data are likely to fan.
In doing so, however, Powell faces the risk of signaling tighter Fed policy in the face of rising geo-political tensions, which foremost include Israel's escalating war with Hamas that threatens to draw the wider middle east region into an extended military conflict.
The Atlanta Fed's GDPNow forecasting tool, in fact, was revised higher yesterday to indicate a current-quarter advance of around 5.4%.
That is likely why markets are seeing the largest one-week rise in Treasury yields in more than eighteen months, with benchmark 10-year note yields adding around 35 basis points over the past four days to trade just under 5% for the first time since 2006.
The upward spike in Treasury yields is also coming amid what would normally be a significant move into safe-haven assets linked to the accelerating military conflict in the Middle East.
"Markets are now conscious that US headline inflation remains uncomfortably high at 3.7% and that war in the Middle East brings further upside risk for inflation," said Saxo Bank's senior fixed income strategist Althea Spinozzi. "With the labor market remaining tight, the bond market cannot call the end of the Fed's interest rate cycle with certainty."
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