Inflation in the US rose at a pace of 1% monthly and 8.6% annually, according to US government data released on Friday, once again beating the Bloomberg consensus of analysts. This new report puts the focus back on concerns about a possible stagflation scenario.
This will put additional pressure on the Fed to act decisively to curb inflation, which shows no signs of abating in the near term. The Fed has already committed to hikes of 0.5% at its June and July meetings, but it may have to go further.
Thus, the meeting of the US central bank, which will take place this Wednesday, comes after the last meeting of the ECB, which decided to raise interest rates by 25 basis points. Specifically, the institution chaired by Christine Lagarde will carry out this hike at its next meeting on 21 July, once its asset purchase programme (PEPP) ends on 1 July.
In addition, at tomorrow’s meeting the Fed will revise its growth, unemployment and inflation forecasts. What do fund managers expect from Fed Chairman Jerome Powell’s decision? We leave you with their comments.
Christian Scherrmann, U.S. Economist at DWS
Fed officials have done their utmost to make sure that their guidance of a 50bps interest hike at each of their next two meetings in June and July is taken seriously. After all, the economic data remains robust, at least for now and inflation continues to be far too high. There is thus almost no conceivable reason why FOMC members would diverge from this path in the upcoming June meeting.
The devil, as usually, is likely to lurk in the details: updated Summary of Economic Projections are due in June. While officials seemingly agree on the path of monetary policy in June and July, their views appear to diverge quite a bit from then onwards. St. Louis Fed President Bullard, as the most hawkish member, has publicly indicated his preference to remain with the current pace of rate hikes of 50bsp throughout the rest of 2022. Other members, by contrast, have already started to flirt with a pause in September. Such a dispersion reflects the high uncertainty monetary policy makers face right now. Inflation most certainly holds the pole position in terms of uncertainty, not least as different measures of it could soon provide diverge signals. Based on recent comments by Vice Chair Lael Brainard, it seems that there could be the intention to re-establish core inflation as the one and only truly important measure. Cynics might interpret this as a sign of Fed fears that recent energy price developments look set to result in headline inflation once again surprising on the upside. The recent moderation in wage dynamics, however, remain compatible with the belief of slowly but steadily declining core inflation rates, meaning it is not just a matter of public relations which inflation measure the Fed should pay attention to. Overall, the update of the Summary of Economic Projections will most probably indicate somewhat higher rates in 2022 and 2023 along with somewhat higher inflation and somewhat lower growth. Here again, we are especially keen to see how members diverge in their expectations for 2023 and 2024. Might one or more of the FOMC members already be secretly penciling in a downturn? If so, it would provide an early clue of how seriously the Fed is likely to take market fears of a recession during its next few meetings.
All in all, we do not expect major surprises at the upcoming meeting, but we remain vigilant, especially as to any signs of a change in guidance beyond summer. After all, we expect the Fed to reassess the stance of monetary policy, and inflation, in August and see the September meeting as potential pivot point.
Paolo Zanghieri, Senior Economist at Generali Investments
With the strengthening of global (war in Ukraine, commodity price spike) and domestic (inflation, tighter financial conditions) headwinds to growth, the outlook has worsened. We revised our growth projection down to 2.3% for this year, and see a deceleration to below potential at 1.5% in 2023. The latest release of the Survey of Economic forecasters signals a 11% probability that GDP will contract next year. Fears of a recessions are widespread but, while our growth forecast is slightly below consensus, we think that a soft (or at worse “softish”) landing remains very likely. Domestic demand proves resilient, with the April data showing that retail sales will grow at a 4%+ annualised pace in Q2 and both durable orders and shipment pointing to an encouraging momentum for capex, also due to low inventories. Longer term, limited private debt and record low borrowing costs provide an important cushion to the economy in case of a downturn. Of course, resilient demand amid an unprecedentedly tight labour market adds to upside risks for inflation and may force the Fed to tighten more. This is the biggest risk we see now. April CPI data had some tentative signs of a peak in inflation, but the climbdown from the current 6.1% core rate will be slow, and we do not expect it to end the year below 4%: the evolution of lockdowns in China and the wage dynamics remain key risks, especially given that sustained demand may allow firms to pass to a large extent cost rises onto consumers.
The Fed then needs and can raise rates faster over the coming months, with two 50 bps hikes in June and July, but will have to slow down its pace in the second half of the year as the sharp tightening in financial conditions will weigh on growth and inflation. The policy rate will then rise to 2.4% (the Fed estimate of the neutral level), by the year-end and then to peak below 3% by mid-2023.
Allison Boxer, US Economist at PIMCO
This week the Fed will release a new statement, Summary of Economic Projections (SEP), and dot plot. Friday’s data reports brought plenty of bad news for the Fed and were consistent with our expectations that the upcoming Fed meeting is going to be a hawkish one. We expect significant upgrades to the interest rate projections and for Chair Powell to sound much more serious about doing whatever it takes to fight inflation than he did at the May meeting. Our baseline is that the Fed delivers 50 bps this week and will try to set up an option for 75 bps in July, but if the market prices in a higher risk of 75 bps over the next few days, we think this will give the Fed an opportunity to be more aggressive on Wednesday. We expect Chair Powell to use the press conference to signal larger hikes are back on the table and that they are not slowing down in September. Looking ahead, stickier inflation is resulting in an even more aggressive front loading of Fed policy which creates serious risk of overtightening, and ultimately greater downside risk to our already stall-speed growth outlook.
The challenge for the Fed is not just the magnitude of the surprise of inflation, but the source of the surprise. Rental inflation measures, which tend to be consistent with the underlying trend of inflation, jumped significantly more than expected. The challenge for the Fed is that there is a long lag between changes in the macro environment and rental inflation measures; even if the economy slows meaningfully and house prices fall and/or unemployment rise, that will take time to appear in CPI.
Otherwise, core details were more or less in line with expectations. Core goods reaccelerated as expected due to autos and airfares which were extremely strong again. For headline inflation, the surging food and energy prices raise questions about the Fed’s ability to focus on core measures and the US consumer’s ability to weather a large negative income shock. Some of the goods price strength should still fall away, as previewed by Q1 retail earnings, particularly as disposable income gets squeezed by food and energy prices, but this report suggests the terminal destination is higher than previously thought.