Fed decision preview: how Powell talks about interest rate cuts, whether the balance sheet adjustment will be revealed

CBN

2024-04-30 07:57Published on the official account of Shanghai Yicai

On April 30, local time, the two-day Federal Reserve monetary policy meeting will officially kick off in Washington.

With the road to inflation becoming bumpy, the Fed's otherwise bright prospects for interest rate cuts have been overshadowed. The agency expects the Federal Open Market Committee (FOMC) to keep interest rates unchanged, and Fed Chairman Jerome Powell's attitude on the issue of interest rate cuts remains in focus. At the same time, after the minutes of the meeting and the speeches of Fed officials, the details of the balance sheet reduction adjustment became another major attraction.

Soft landing turns into stagflation?

The latest economic data has turned a soft landing, or even no landing, into a stagflationary concern. U.S. economic growth slowed more than expected in the first quarter, but the acceleration in inflation suggests that Fed policy will be difficult to pivot in the near term.

The U.S. economy is growing at its slowest pace in nearly two years. The U.S. Commerce Department's Bureau of Economic Analysis said gross domestic product grew at an annualized rate of 1.6 percent last quarter, below the long-term sustainable growth rate of 1.8 percent, while consumer spending grew at a rate of 2.5 percent, significantly slower than the previous growth rate of 3.3 percent. Economists worry that low-income households have depleted their savings and are largely dependent on debt to finance their purchases. Recent data and commentary from U.S. financial institutions suggest that it is becoming increasingly difficult for low-income borrowers to repay their loans. At the same time, corporate inventories, trade deficits and government spending have also been a drag on the economy.

It should be noted that signs of a cooling in the U.S. economy continued, with the S&P Global U.S. manufacturing purchasing managers' index (PMI) for April returning below the boom and bust line, and the services PMI falling to a five-month low of 50.9 this month from 54.0 in March.

S&P said high interest rates and high inflation have weakened customer demand. New orders, a sign of future sales, fell for the first time in six months, leading companies to be more pessimistic about the economic outlook, "The company responded by cutting jobs for the first time in nearly four years and business confidence fell to its lowest level since November last year." Raw material prices continue to rise, putting pressure on manufacturers. ”

The recurrence of inflation has made the haze of stagflation begin to appear. The core personal consumption expenditures price index (PCE), which excludes food and energy, rose at a pace of 3.7% in the first quarter, far exceeding market expectations. The closely watched University of Michigan Consumer Sentiment Survey showed one-year and five-year inflation expectations of 3.2% and 3%, respectively, the highest level since November 2023.

At the same time, labor market conditions remain tight as jobless claims remain low, exacerbating the risk of sticky inflation. Fears of a delayed rate cut by the Federal Reserve have intensified, pushing medium- and long-term Treasury yields to their highest levels since November.

JPMorgan Chase CEO Jamie Dimon recently expressed his concern that inflation may not go away as expected. "So I considered the range of possible outcomes. A soft landing is possible, and I'm a little worried that it might not go that smoothly. Dimon estimates that the market sees a 70% chance of a soft landing, "I think it's half." ”

Whether the balance sheet reduction adjustment is coming

With no economic projections at the FOMC May meeting, the focus will turn to Powell's speech at the press conference for clues as to when the Fed will start adjusting policy.

Recent comments from Fed officials suggest that the need for a rate cut is far less urgent than it was during the last meeting, though most still expect some easing later this year.

Boris Schlossberg, macro strategist at BK asset management, said in an interview with CBN that Powell may reiterate the need for patience, but still hinted that rate cuts are still possible, "However, what investors will be trying to gauge is how confident Powell is in a sharp decline in inflation in the coming months, which will determine the size of policy space." ”

Fed funds rate futures show that the market expects the Fed to cut interest rates by 36 basis points by the end of the year, less than two rate cuts.

Bob Schwartz, senior economist at Oxford Economics, previously told CBN that the Fed is closely watching the acceleration of core service prices, which is largely affected by labor costs, and is a huge obstacle for inflation to overcome on the road to the Fed's 2% target.

Schwartz believes that the strength of the labor market and the recent rise in inflation give the central bank room to be patient and maneuver. "If the Fed doesn't cut rates in June, then this window could be closed until September, as there is little data between the June-July meetings that can change the Fed's assessment of the data. Overall, the Fed's judgment of three rate cuts this year is likely to be difficult to achieve. He analyzed.

JPMorgan Chase & Co. economist Michael Feroli expects Powell to repeat his views earlier this month, allowing the data and outlook to guide policy, and "the post-meeting statement may be little changed from the March meeting." Powell will reiterate that the Fed will postpone rate cuts as needed, but is also prepared to act as soon as the data allows. ”

Schlossberg told CBN reporters that if the Fed's stance in May is not much changed from before, investors will turn their attention to Friday's non-farm payrolls report, "The key factor here is whether wage growth will remain modest, and any acceleration in average hourly earnings could trigger a new round of interest rate panic." ”

The Fed discussed adjustments to its quantitative tightening (QT) program at its last meeting. In the early days of the pandemic, the Fed bought $5 trillion in assets to support the economy and financial markets. Since mid-2022, the balance sheet has shrunk by $1.5 trillion. The minutes showed that there was a general preference for caution in discussing how to adjust the pace of balance sheet reduction. Participants preferred to maintain the existing cap on institutional MBS and adjust the call cap on U.S. Treasuries to slow the pace of tapering.

Danske Bank said in a note sent to CBN reporters that the Fed may announce the pace of tapering of QT at this meeting. The Fed is in no hurry to taper the scale, but the latest comments suggest that policymakers tend to take a "slow adjustment" approach to the QT cadence to avoid a repeat of the 2019 liquidity crisis. In any case, the bank believes that the decision will not have a significant impact on the financial situation.

(This article is from Yicai)

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