The Federal Open Market Committee (FOMC) of the US Federal Reserve (Fed) has delivered as expected and raised the country’s interest rates by 75 basis points. In doing so, they have reached a target range of between 2.25% and 2.5%, which is their highest level since December 2018.
The central bank has hinted that it will carry out more interest rate hikes in the coming months, although it has not cleared up any doubts about the pace of hikes or how long they will last.
The Fed’s decision comes after the release of US unemployment figures, which stood at 3.6%, while the US economy experienced a 0.4% contraction in GDP in the first quarter.
After learning of this new rise, in line with the expectations of most analysts, we asked sector professionals about their assessment and expectations for the future.
Morgane Delledonne, Head of Investment Strategy Europe de Global X
The Fed hiked by 75bps this month as widely expected, but turned more cautious by removing forward guidance. Markets are pricing a less aggressive pace of tightening in the second half of the year.
The US Treasury curve flattened led by the rally of the short end. We see more risk to a dovish surprise as we move forward in H2 amid a marked economic slowdown, low business sentiment and mixed earnings and guidance from Q2 earning season, and global slowdown. Overall the US dollar should remain strong versus the euro, but one could expect less divergence between the Fed and the ECB. Both will no longer provide forward guidance but be data dependent. We are likely to see a soft landing in the US, while Europe faces stronger headwinds on the energy front which point toward a sharper recession maybe before year end.
Christian Scherrmann, US Economist at DWS
As universally expected, the Fed delivered another 75 basis points hike in its July meeting, showing its serious commitment to getting inflation down. The central bank remains in inflation fighting mode, pouring as much water as it can on the U.S.’s inflationary flames.
In the Fed’s thinking, however, the current level of its key interest rate, at 2.25-2.5 percent, is not a growth killer: it neither supports nor hinders the economy. The central bank has started though to acknowledge what is already being discussed intensively elsewhere: economic momentum is softening. Despite that, the Fed has to focus on still too high inflation. And labor markets, the Fed’s likely number one proxy for the real economy, are giving it leeway to do that: They are extremely tight and the unemployment rate remains low.
Fed Chair Powell reiterated the Fed’s hawkish stance in the press conference, hinting that a slowdown in economic momentum might not be enough for the Fed to turn dovish. What the Fed is looking for is a big slowdown elsewhere: “compelling evidence” that inflation is easing. That might not happen soon, and so the Fed Chair is keeping the door open for a further 75 basis point hike. But Powell avoided giving clear guidance on the Fed’s intentions in September as he said goodbye for the summer. We understand why. A lot can happen in the coming month. And for now, the current well communicated full on commitment to getting inflation back towards the target is the right setting to manage elevated inflation expectations. And yet we might have not to wait until September to get a major update on the FOMC’s evolving thinking. In the Jackson Hole Economic Symposium – scheduled for late August – potential adjustments to the Fed’s forward guidance might emerge.
Unless there are some big, pleasant surprises on prices, however, we expect the Fed to continue to stress it’s in tightening mood, though its rate shifts in the fall are likely to be smaller than 75 basis point steps. After the emergency response, the Fed’s inflation-fighting might begin to become a little more measured.
Charles Diebel, Head of Fixed Income at MIFL
The FOMC hiked rates by 75bp in line with consensus expectations and likewise continued to conduct quantitative tightening at the preannounced pace. The FOMC flagged that they remain very attentive to ongoing inflation risks and are committed to bring inflation back towards target at 2%.
However, they also acknowledged that spending and production were softening despite still robust employment conditions. This is the first acknowledgement of the slowing in the US economy and in turn is the first step to signalling a slowing in the pace of rate hikes.
Much will remain dependent on the inflation data in the near term to decide the magnitude for further hikes but if the current path continues we can expect the FOMC to slow the pace of hikes as the year wears on and the fact that the terminal rate does not appear to have shifted highlights that progress is being made towards the end of the current cycle.
Sebastien Galy, Ph.D., Senior Macro Strategist at Nordea Asset Management
The Federal Reserve increased by 75bp and maintained the view of further tightening ahead without giving much precision. Whereas the Nasdaq bounced hard on hope that it could anticipate the top of the Fed’s rate hiking cycle, the fixed income market is far more cautious as this is no signal of a dovish pivot ahead, with DOTS plots suggesting more upside and the next release in September.
The Fed is fighting a battle against inflation that may take many months and the Fed is actually deeply uncertain as to how much it has to tighten as it is very difficult to forecast inflation due to nonlinearities, small group dynamics and lags. What we have seen is some central banks in EM running after inflation and tightening along with it, whether this is the situation in the US is unclear and Q2 data today should give us a better picture.
What we know from the likes of Walmart is that part of the population is switching to goods of necessities and being far more price sensitive, whereas broad economic momentum seems still solid at least as evidenced by the labor market. The odds are that the Fed is still running behind inflation and further tightening is ahead as the labor market is far too tight especially with likely low legal and illegal immigration.
Paolo Zanghieri, Senior Economist, Generali Investments
We expect a 75bp rate hike at the July FOMC meeting next Wednesday. The chances of a 100bp have decreased materially with the pullback in inflation expectations and the ongoing tightening in financial conditions.
Moreover, the growth trajectory is already low enough and a “monster” hike would be unnecessarily risky, especially as it might trigger a substantial repricing and would make it harder for the FOMC to control market expectations going forward.
The key issue is the size of the rate hike in September. FOMC officials seems keen to keep their options open and avoid any strong guidance. We expect Powell to remind that 75bp hikes are unusually large and that the funds rate is close to the FOMC’s estimate of its longer-run level. This, and the signs of a material slowdown of the economy should tilt the balance for a 50 bp hike, followed by another one in November or December. However the June CPI report that broad-based high inflation and in particular the strength in the persistent shelter category pose upside risk to our inflation and Fed forecast.
James Athey, investment director, abrdn
The decision to hike 75bps is no surprise at all and as such the lack of any meaningful market reaction logically follows. Beyond that I’d think that Chair Powell might have been hoping to get through the press conference without causing too many ructions in markets.
However, investors are likely to latch onto the Chair’s refusal to give any forward guidance and instead follow the ECB into a meeting by meeting stance as prima facie evidence that the deterioration in recent economic data is already testing the Fed’s resolve to keep pushing hard on the economic brake.
Has he just taken the first step towards another Powell pivotal? A steeper yield curve, a weaker dollar and stronger risk assets are the obvious response to such an interpretation. The problem of course is that these very market moves act to further ease financial conditions at a time where inflation remains at a 40 year high. Not the result anyone in the Eccles building should have wanted to see.
Tiffany Wilding, North American Economist at PIMCO
As widely expected the Federal Reserve raised their target interest rate by 75 basis points taking the midpoint of their target rate range to 2.35% – just below their estimate for a neutral policy stance in the longer-run.
At the press conference Chair Powell also guided that “modestly restrictive” monetary policy is warranted by the current economic fundamentals, including elevated inflation, and mentioned that another outsized move in the Fed Funds rate may be necessary in September in order to ensure monetary policy is restrictive.
The Treasury market rallied in response to the statement and Powell’s comments, suggesting that markets were pricing in the risk of a more aggressive action in light of the recent inflation surprises.
Indeed, inflation in much of the world has been more persistent than many central bankers anticipated. This has raised the concern that a recession – not just a period of below-trend growth – may be needed to restore price stability. This appears especially true in the U.S., where, although U.S. headline inflation will likely move lower over the coming months due to the recent decline in global oil and agricultural prices, wage and rental market inflation – two areas where price trends tend to be more persistent – have actually accelerated (for example, see the Atlanta Fed’s Wage Growth Tracker).
While there is uncertainty around the exact level of the fed funds rate that is consistent with the “modestly restrictive” guidance provided by Chair Powell, what is clear is that FOMC officials don’t believe they have reached it yet, and it could be closer to the 4% 2023 peak in the median SEP rate forecast provided in June.