They expect the Federal Open Market Committee to raise interest rates by half a percentage point in September and then switch to quarter-point hikes during the remaining two meetings of the year. That would raise the upper bound of the central bank’s policy target to 3.5% by the end of 2022, the highest level since early 2008.
Swap traders betting on the Fed’s policy are now leaning towards a 50 basis point gain in September as more likely than a 75 basis point move following weak US economic data earlier on Friday. The broader path envisioned by economists is slightly more aggressive than the path implied by market prices.
It’s also steeper than what was expected ahead of the June meeting, when FOMC forecast rates climb to 3.4% at year-end and 3.8% in 2023.
The 75 basis point increase in June was the biggest increase since 1994. Powell has said there would be 50 or 75 basis points on the table at the Fed’s July 26-27 meeting, although many policymakers’ comments centered on 75 basis points. . Action. The survey of 44 economists, conducted from July 15-20, predicts that the Fed will raise rates another 25 basis points in early 2023, reaching a peak of 3.75% before pausing and cutting rates before the end of the year. the year.
“The still strong labor market and solid consumer spending offer the Fed room to continue raising key rates quickly,” Kathy Bostjancic, chief economist at Oxford Economics, said in a response to a survey.
There is overwhelming consensus that the FOMC will increase 75 basis points this month, with only one forecaster — the US economic team at Nomura Securities — looking for a full percentage point gain. Fed Governor Christopher Waller, one of the more aggressive policymakers, has endorsed a 75 basis point move, and Atlanta Fed President Raphael Bostic warned that too drastic measures would have negative spillovers.
What Bloomberg Economics Says…
Bloomberg Economics believes an increase of 75 basis points strikes the right balance. The risk of inflation going up is high. With Covid cases on the rise again and the war in Ukraine still raging, it’s likely we haven’t seen the latest adverse supply shock. And with inflation expectations already on shaky ground, the Fed must act preemptively before loosening expectations. ”
— Anna Wong, Yelena Shulyatyeva, Andrew Husby and Eliza Winger
The Fed is trying to cool economic demand in response to rising prices that have lasted longer than expected and have raised fears that inflation expectations could spiral out of control. The consumer price index rose 9.1% in June from a year earlier, in broad progression, the largest increase since 1981.
If the Fed makes another 75 basis point move next week, the combined increase of 150 basis points in June and July would represent the sharpest rise in Fed interest rates since the early 1980s, when Paul Volcker was chairman and struggled with skyrocketing prices. inflation. According to nearly all economists in the study, there is no point in raising the full point at any point during this interest rate cycle.
Economists expect the Fed to eventually ramp up its balance sheet cuts, which began in June with the outflow of maturing securities. The Fed is gradually phasing in its cuts to a final rate of $1.1 trillion a year. Economists predict that the balance sheet will reach $8.4 trillion by the end of the year, falling to $6.5 trillion by December 2024.
Most respondents say officials will resort to selling mortgage-backed securities outright, in line with their expressed preference for holding only government bonds in the longer term. Among those anticipating sales, there is a wide range of views on when sales would begin, with most seeing it begin in 2023 or later.
At the July meeting, the FOMC statement is expected to retain its language that provides guidance on interest rates that pledge continued hikes, with no specificity about the size of the adjustments.
Most economists expect one disagreement during the meeting. Kansas City Fed President Esther George, who at last meeting disagreed with a smaller hike, has warned that too abrupt changes in interest rates could undermine the Fed’s ability to achieve its planned rate path.
Wall Street economists have recently raised concerns about the potential for a recession as the Fed tightens monetary policy amid headwinds, including high energy prices and the Russian invasion of Ukraine.
“The Fed is between a rock and a hard place; we cannot leave the inflationary environment we find ourselves in without incurring some pain and scarring,” said Diane Swonk, chief economist at KPMG LLP.
Economists are mixed on the outlook: 48% see a recession as likely in the next two years, 40% see some time with zero or negative growth likely, and the rest hope the Fed will see a soft landing of sustained growth and low inflation.
While Fed officials have said they see continued high inflation as the biggest risk they face, economists are divided: 37% see inflation as the biggest risk and 19% see too much tightening leading to recession as the biggest concern. The rest consider the concerns to be about equal.
In addition to slowing rate hikes, economists see the Fed eventually changing course in response to lower growth and inflation. A majority of 45% see the first rate cuts in the second half of 2023, while 31% expect cuts in the first half of 2024. The markets, on the other hand, see peak rates reached in the first quarter of 2023, with a cut later in the year.
“Inflation should begin to decline rapidly from March next year as home, used car and gasoline prices look more favorable year-on-year,” said James Knightley, chief international economist at ING Financial Markets. “This could open the door to a 2Q rate cut.”
Economists expect the central bank to halt its rate hikes well before inflation, measured by the Fed’s chosen metric, hits its 2% target. A 46% majority sees the Fed halt its tightening with core PCE inflation, excluding food and energy, from 3.6% to 4%. By that measure, core inflation stood at 4.7% in May.