Fed ups rate again
Please note: The article does not constitute advice or any form of investment recommendation. All numbers quoted were sourced from Bloomberg data as at Wednesday 2 November 2022. Past performance is never a guarantee of future performance.
In a widely anticipated move, the US Federal Reserve (Fed) has increased interest rates by 0.75%. US 2-year yields dropped slightly as an initial reaction only to return to their upward trend afterwards.
The latest hike represents the fourth consecutive time that the base rate has risen by this amount, and reinforces the challenges facing the world’s most influential central bank. Having initially labelled post-lockdown inflation as ‘transitory’, the Fed is racing to cool soaring prices that have become a hallmark of 2022.
Under increased pressure and scrutiny, Fed chair Jay Powell is acutely aware that a fine monetary policy line is being walked. Raise rates too much more, and the central bank risks tipping the largest economy deeper and longer into recession.
That said, the discussion around the size of each hike is becoming less relevant (than when the current hiking cycle first started) and instead the focus is turning to where policy rates, now at 3.75%-4%, may peak.
The market has been continuously underestimating the risk of both a higher peak rate, as well higher-for-longer rates. After yesterday’s FOMC meeting, forwards now point to a peak Fed fund rate of around 5.25%, which is not inconceivable given the macroeconomic backdrop.
No room for error
As we covered in our September article, (US Federal Reserve tries to assert itself), the fear of inflation becoming entrenched is real. So much so that it was enough for the Fed to drop its previous dual mandate of maximum employment and price stability. It is now laser-focused on bringing inflation back to its target of 2%.
Now more than ever, the US central bank needs to get its timing and its communications right. The early stages of the inflation battle were scarred by sluggish decision-making and unclear messaging. But if rate rises are reigned back at the right pace, and if investors are crystal clear on the Fed’s train of thought, then the economic storm clouds of 2022 may lift a little in 2023.
Spot the difference
From historically low interest rates and limp inflation, to today’s cost-of-living challenges and aggressive monetary policy, US conditions in 2022 are noticeably different to those in the preceding decade. With midterm elections on 8 November, politics may yet throw up a few curve balls before the year is out.
Keep an eye out for our Outlook report that will be published on the 14 November. Amongst other things, we look at US economic prospects for 2023 and beyond.
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