Fed Hiking Interest Rates 75 Basis Points

 

With the CPI report out on Thursday, some investors and analysts are calling for the Federal Reserve to raise interest rates 75 basis points. The last time the Fed raised rates that high was November 1994. Some are calling for the Fed to tighten up the economy through quantitative tightening. However, there are many factors that should be taken into consideration before any such decision is made. Listed below are some factors that should be considered when raising rates.

Fed Funds rate ending this year at 3.125%

The Federal Reserve has projected the Fed Funds rate ending this year at 3.1255%, and three more hikes in 2018. However, the market is pricing in a 1% Fed funds rate by the end of the year, with two more cuts to follow. The market is currently pricing in one additional hike for 2019, and several more for 2020. That is not a particularly rosy picture. The Fed is expected to continue raising rates throughout the year, but the Fed's recent actions may change the outcome.

The Fed may be concerned that raising rates too quickly risks putting the economy in danger of overshooting its target range. However, the current economy is already running an eight-year expansion. The longest expansion in the United States took 10 years, beginning in 1991. It is unlikely that this expansion will ever become the longest in history. So, the Fed will likely need to increase the pace of hikes in order to maintain this expansion. As of March 2013, the Fed had projected the Fed Funds rate ending this year at 1.0%. In its statement, the Fed forecasted three hikes in 2015 and eight hikes in 2016.

Fed swaps trading priced a 4% terminal rate by mid-2023

Goldman Sachs expects the Fed Funds rate to remain at zero through mid-2023, but then hike rates to 3% by the middle of 2023, which is above the r-star neutral real short-term interest rate, which historically was about 1% and is now seen as closer to zero. The analysts believe the market is underestimating this rate and that the Fed could intentionally fall behind the curve, even as it tightens financial conditions.

Federal Reserve officials will hike rates in the coming months. A steep but shallow cycle of interest rate hikes is priced into the swaps market, with the overnight benchmark not going above 2.5% at the peak of the last tightening cycle in 2018. After all, the overnight benchmark reached 6% and 20% in the 1980s, so a 4% terminal rate in mid-2023 would be a logical next step.

Inflation rising rapidly due to war in Ukraine

The recent Russian invasion of Ukraine has dealt a blow to the global economy, causing already high consumer prices to skyrocket. Private forecasters expect the cost of living to remain high through 2023, and the war's fallout could further boost inflation. However, the impact of the war on the economy will depend on whether the high inflation persists and whether the scarring will be long-term.

A recent rise in gas prices is the latest sign that the war in Ukraine is having a lasting impact on prices in Europe. As Russia earns around $700 million a day selling commodities to the west, the price of these goods is expected to rise. The west is worried about the potential effects of this inflation shock, which would be the largest since the late 1990s. The war in Ukraine is affecting Europe's economy and the price of gas is four times higher than in the US. As a result, gas prices are rising quickly and will have a detrimental impact on the continent.

Powell says Fed is "strongly committed to restoring price stability"

Fed Chair Powell has reiterated that the central bank is committed to restoring price stability, but he also noted that the economy is strong and able to withstand tighter monetary policy. However, some economists have expressed concerns over the Fed's hawkish stance. Powell said the American economy is strong, and he anticipates a "soft or softish" landing.

In his speech, Fed Chairman Jerome Powell discussed the reasons for the rate hike. The economy is well-positioned to handle a tighter monetary policy. He also spoke about his plans to reduce the central bank's $9 trillion balance sheet. This move is expected to firm up monetary policy, especially with low unemployment rates. Powell's speech may be the most important policy announcement of the year.

The central bank will soon raise the federal funds rate to 0.75%-1%. But the current market price for the rate is 2.75%-3% by the end of this year. Stocks rallied after Powell's speech, while Treasury yields backed off from their recent highs. The news caused a stir in the stock market, as investors are now expecting the Fed to hike rates aggressively. Powell's comments were widely seen as a signal that the central bank was firmly committed to restoring price stability.