Four days that pushed the Fed towards its biggest change in 28 years

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Wednesday, June 15, 2022

Today’s newsletter is by Brian Cheung, an anchor and reporter covering the Fed, economics, and banking for Yahoo Finance. You can follow him on Twitter @bcheungz.

Up until last Friday, the Federal Reserve’s game plan for tackling rapid inflation was clear: raise interest rates by half a percent on June 15.

In the last few days, however, downbeat reports on inflation and consumer sentiment have set the Fed on a course to abandon those plans in favor of raising interest rates by 0.75% — its most aggressive move since 1994.

If Fed Chair Jerome Powell does follow through on this plan this afternoon, borrowing costs for American families and households will rise by more than originally expected.

The implicit acknowledgement: the Fed needs to hit the brakes harder than planned, rolling the dice on tipping the economy into recession in order to stop inflation.

U.S. Federal Reserve Chairman Jerome Powell testifies during the Senate Banking Committee hearing titled

U.S. Federal Reserve Chairman Jerome Powell testifies during the Senate Banking Committee hearing titled “The Semiannual Monetary Policy Report to the Congress”, in Washington, U.S., March 3, 2022. Tom Williams/Pool via REUTERS

How we got here

“We don’t expect major fireworks at the June FOMC meeting,” Bank of America economists led by Ethan Harris wrote on Friday. “Chair Powell and the Fed has communicated that they are likely to hike by 50bp at this meeting (as well as at the next meeting in July) and we expect them to deliver.”

Times have changed.

On Friday morning, government data showed prices in America rose 8.6% year-over-year in May. That reading of the Consumer Price Index not only showed the fastest pace of price increases since 1981, but a breadth of inflation that shows few signs of a peak in pricing pressures.

A few hours later, the University of Michigan reported that consumer sentiment had fallen to the lowest level ever recorded in its survey, which dates back to the mid-’70s.

Following these reports, stocks tanked. The sell-off extended into Monday, and the S&P 500 entered into a bear market at the close of Monday’s trading session.

On Monday afternoon, the Wall Street Journal’s Nick Timiraos published an article noting that the Fed was “likely” to consider a 0.75% rate rise this week.

Markets got the message — Wall Street banks including JPMorgan, Goldman Sachs, and Evercore ISI, which previously believed a 0.50% rate hike would still take place this week, revised their calls to predict that the hike will instead be 0.75%.

Betting markets repriced to show a roughly 90% chance of a 0.75% rate hike after suggesting just a 3% chance of this event last week.

On the morning of Friday, June 10, the Fed raising rates by 0.75% this week was seen as a far-flung possibility; by the close of business on Monday, this move had become consensus.

‘Hard to stop’

In many ways, the shift in expectations for the Fed’s move today is the easy part.

Down the road, how the Powell Fed negotiates this abrupt change in plans presents a unique and daunting challenge.

Economists at Evercore ISI wrote in a note that raising rates by 75 basis “would be hard to stop,” with the firm suggesting that this accelerated pace of rate increases could suddenly crater business activity and spending, and trigger job losses as part of a self-made recession.

TD Securities on Tuesday wrote the Fed is “risking a hard landing” for the tradeoff of dampening inflation; the firm expects a 75 basis point rate increase this afternoon.

“Friday was a data disaster for the Fed,” wrote JST Advisors founder Jon Turek, adding that “the Fed traded guidance credibility for inflation credibility.”

Over the last few months, Fed officials took pains to ready investors for successive interest rate increases of 0.50%, the fastest pace in over 20 years. Later today, investors expect to hear Powell admit these moves wouldn’t have been enough.

Leaving economists and investors alike to ask: now what?

What to Watch Today

Economy

  • 7:00 a.m. ET: MBA Mortgage Applications, week ended June 10 (-6.5% during prior week)

  • 8:30 a.m. ET: Empire Manufacturing, June (2.5 expected, -11.6 during prior month)

  • 8:30 a.m. ET: Retail Sales Advance, month-over-month, May (0.1% expected, 0.9% during prior month)

  • 8:30 a.m. ET: Retail Sales excluding autos and gas, month-over-month, May (0.4% expected, 1.0% during prior month)

  • 8:30 a.m. ET: Import Price Index, month-over-month, May (1.1% expected, 0.0% during prior month)

  • 8:30 a.m. ET: Import Price Index excluding petroleum, month-over-month, May (0.6% expected, 0.4% during prior month)

  • 8:30 a.m. ET: Import Price Index, year-over-year, May (11.9% expected, 12% during prior month)

  • 8:30 a.m. ET: Export Price Index, month-over-month, May (1.3% expected, 0.6% during prior month)

  • 8:30 a.m. ET: Export Price Index, year-over-year, May (18.0% during prior month)

  • 10:00 a.m. ET: Business Inventories, April (1.2% expected, 2.0% during prior month)

  • 10:00 a.m. ET: NAHB Housing Market Index, June (67 expected, 69 during prior month)

  • 2:00 p.m. ET: FOMC Rate Decision, lower bound, June 15 (1.25% expected, 0.75% prior)

  • 2:00 p.m. ET: FOMC Rate Decision, higher bound, June 15 (1.50% expected, 1.00% prior)

  • 2:00 p.m. ET: Interest on Reserve Balances Rate, June 16 (1.40% expected, 0.90% prior)

Earnings

Pre-market

Post-market

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