Chair Jerome Powell and other committee members of the Federal Reserve are expected to announce a quarter-point hike in key rates on Wednesday, May 3rd. This will mark the end of an aggressive rate hike cycle that began in early 2022. The inflation rate remains stubbornly high, but it is believed that banking stress poses a greater risk to the economy than a 25 bps hike. Therefore, the Fed is also expected to loosen its monetary policy tightening biases.
FOMC Meeting and Previous Policy
The FOMC’s 2-day meeting began on May 2nd and will conclude with the announcement on May 3rd. In the previous policy, the Fed raised key funds rates by 25 bps despite two regional banks, Silicon Valley and Signature Bank, failing on American soil. The rates were raised to a range of 5% to 5.25%, the highest level since 2007.
Inflation and Fed’s Target
US inflation eased for the ninth consecutive month in March to 5%, which was below market estimates. However, it is still above the Fed’s target of 2%. Dutch multinational banking and financial services provider ING stated in its preview note that „inflation remains ‚unacceptably high‘, but banking stresses are leading to a tightening of lending conditions, which will do more to slow the economy than the likely 25bp hike on Wednesday. While the Fed will leave the door ajar for further hikes, the need for higher policy rates is highly questionable.“
Impact on the Economy
The Fed’s minutes of the March meeting hinted that inflation was „unacceptably high“ and that a „period of below trend growth (was) needed“ to bring it back to the 2% target. However, since then, inflation has continued to run high, the jobs market is tight, and first-quarter GDP was driven by strong consumer spending. Federal Reserve officials‘ comments have not changed much in the past month, except for some acknowledging the impact on credit conditions. Some officials, including Atlanta Fed President Raphael Bostic, have openly talked about one more hike and then a pause.
Expectations and Scenarios
ING’s note stated that „the graphic above shows the different scenarios that are likely in play for the May FOMC meeting and what we expect to happen. A no-change decision would be seen as very dovish given the Fed’s previous stance.“