The U.S. economy's soft landing, with inflation slowing without any significant deterioration in the labor market, marks the first meeting of the Federal Reserve's Monetary Policy Committee this year. Investors and analysts are hoping that their President, Jerome Powell, will give an indication of when the rate cuts that central bank officials themselves are predicting will begin this year. The market is divided on whether an initial cut of 25 basis points (0.25 percentage points) will occur at the March meeting. There is no doubt that the Fed will keep the price of money at 5.25% to 5.50% this Wednesday, the highest level in almost 23 years.
The focus will be on how Powell interprets the latest economic data. The economy grew 0.8% quarterly and 3.1% year over year in the fourth quarter, showing surprising strength. For the full year, gross domestic product (GDP) rose 2.5%, according to the first estimate released last Thursday by the Commerce Department's Office of Economic Analysis. Meanwhile, the Federal Reserve's preferred inflation gauge slowed to 2.9% in December, falling below 3% for the first time since the start of 2021, according to data released Friday by the same organization.
All forecasts point to a slowdown in the US economy in the year that has just begun. Inflation remains above the price stability target of 2%, but if the data for the last three or six months are annualized, the target would already be reached. That is, everything is ready to start cutting rates, but the question is when and at what pace to start to avoid a misstep.
Although United States President Joe Biden has greatly respected the role of the Federal Reserve in fighting inflation, the Democrats' political pressure on Powell to stimulate the economy at the start of an election year has begun.
Massachusetts Senator Elizabeth Warren and three other Democratic colleagues (John Hickenlooper of Colorado, Jacky Rosen of Nevada and Sheldon Whitehouse of Rhode Island) have called on Powell to lower tax rates to reduce purchasing costs. “High interest rates have exacerbated the nation’s ongoing housing access and affordability crisis,” the senators wrote in a Jan. 28 letter. “As the Fed considers its next steps in the new year, we urge it to consider the impact of its rate decisions on the housing market and reverse the troubling rate increases that have put affordable housing out of reach for too many people,” the letter adds added.
There is nothing to suggest that Powell, appointed by Donald Trump and renewed in office by Joe Biden, will give in to political pressure. “We don’t think about politics. We are thinking about what is right for the economy,” he said at the December press conference. In any case, the change in monetary policy direction is coming in the months before the election and it will be difficult for Powell to escape criticism on one level or another.
Although every word from the President of the Federal Reserve this Wednesday will be carefully analyzed, it is possible that he will adopt a wait-and-see attitude, referring to the development of indicators. At the same time, it can deal with the central bank's balance sheet, which is shrinking after expanding to combat the pandemic. For example, the reserve can slow down the depletion of its assets. The market this week is also aware of the Treasury Department's debt issuance goals and how these may affect long-term interest rates and therefore monetary conditions.
“If the Fed were to cut rates in March, it would signal it at the meeting, but we think the chances are slim because it would prefer to wait for additional evidence that nominal wage growth and underlying inflation pressures are easing,” say the analysts. from Oxford Economics. “Downside risks to the economy appear to be easing, reducing the risk of a scenario in which the Federal Reserve has to cut interest rates faster than expected to support the economy. This suggests a gradual pace later this year. “We expect the Fed to cut interest rates once a quarter starting in May,” they add.
For its part, Axa Investment Managers also forecasts a cautious easing of monetary policy that would raise interest rates from 5.50% to 4.75% at the end of the year, although with a first cut in June. “We doubt the Federal Reserve is comfortable enough to keep inflation on track as long as growth remains solid,” said David Page, head of macroeconomic analysis at the manager.
Powell has repeatedly highlighted the risk of claiming victory too soon, recalling how Arthur Burns, chairman of the Federal Reserve in the 1970s, tolerated inflation and let it become entrenched in the U.S. economy for a decade. It was Paul Volcker, whom Powell calls himself an admirer, who persisted until excessive price increases were subdued in the following decade.
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