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Federal Reserve pauses, warns more tightening is likely

The Federal Reserve’s policy committee left benchmark rates unchanged this afternoon – but put the conditions in place for a hike in July, broadly matching market expectations for a “skip” in the central bank’s monetary tightening trajectory. At the conclusion of its two-day meeting in Washington, the Federal Open Market Committee unanimously voted to maintain the target range for the federal funds rate to 5.00-to-5.25 percent, with no dissents in favour of a smaller or larger move.

In the – broadly unchanged – official statement setting out the decision, policymakers said “Holding the target range steady at this meeting allows the Committee to assess additional information and its implications for

monetary policy”.

Officials acknowledged continued resilience in the economy and in labour markets, noting that “Recent indicators suggest that economic activity has continued to expand at a modest pace. Job gains have been robust in recent months, and the unemployment rate has remained low”.

Updated forecasts contained in the Summary of Economic Projections showed median growth expectations shifting, with the economy now seen expanding 1 percent in 2023 and 1.1 percent in 2024, up from the previous 0.4 percent and down from 1.6 percent, respectively. The employment rate was revised to 4.1 percent this year and 4.5 in 2024, down from 4.5 and 4.6 percent.

Yesterday’s weaker-than-anticipated consumer price index report stopped short of providing the “clear and convincing evidence” of a decline in inflation that officials have been looking for. Committee members now expect the annualized change in core personal consumption expenditures to sit near 3.9 percent by year end and 2.6 percent in 2024, up from the 3.6 percent and 2.6 percent estimates provided in March.

And, perhaps most critically, median forecasts for the Federal Funds rate were ratcheted higher across the front end, from 5.125 percent this year to 5.625, and from 4.25 in 2024 to 4.625.

Markets are reacting cautiously, with key measures of risk appetite deteriorating modestly as traders move terminal rate expectations higher and push “pivot” forecasts out into the future. US equities are slipping as two- and ten-year government bond yields climb and the dollar is reversing higher.

Focus is now shifting to the press conference, where Powell might struggle to out-hawk financial markets that are fully prepared for an aggressive inflation-fighting message – and that nonetheless remain extremely exuberant. In avoiding a commitment to further rate hikes, he risks triggering a melt-up in financial markets that could unleash inflation-generating wealth effects – but an overtly hawkish message could do the same, by increasing the odds on an eventual pivot to rate cuts. We wish him luck.

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