Today the Federal Reserve mounted a full-court press (Hey, it is March Madness time, right?) on the need for at least one more interest rate increase before any pause. And financial markets were listening.
Goldilocks is just about the only thing keeping the current stock market afloat in the face of a storm of worry from a banking crisis, to stubbornly high inflation, and signs of a cooling economy. The Goldilocks story says, Don’t worry about all that. The Federal Reserve is about to pivot on interest rates. At its May 3 meeting, the Federal Reserve Open Market Committee might raise interest rates by 25 basis points but that will be the last interest rate increase. And then the Fed will move to start cutting interest rates in the second half of the year with financial markets pricing in as much as 200 basis points of cuts by the end of 2024. And all this will happen, too, without a recession, as the Fed engineers a successful soft landing of the economy and a significant slowdown in inflation.
If you believe that, you should be buying stocks. I don’t believe it. And more importantly, the bond market doesn’t believe it.
I argued in my YouTube video on Tuesday that this was a market without a trend. So far that seems about right.
Not a whole lot of news out of today’s breathlessly awaited meeting of the Federal Reserve’s Open Market Committee. The committee raised its short-term benchmark rate by 25 basis points to a range of 4.75% to 5%. That move had about 80% odds in its favor going into the meeting. The Dot Plot projections kept the interest rate forecast at 5.1% for the end of 2023. That was unchanged from the December Dot Pot projections.
Ahead of the Federal Reserve’s decision on interest rates today, banks look like they’ve cut back on lending as a result of the Silicon Valley Bank/Signature Bank/ etc. crisis. And economists are reminding us all, that a reduction in bank lending because of fear of a banking crisis is just as much a tightening of the money supply as higher interest rates from the Fed.
The CME FedWatch Tool, which calculates the odds of a Fed move on interest rates by looking at prices in the Fed Funds Futures market, puts the odds of a 25 basis point interest rate increase from the U.S. central bank tomorrow at 86.4%. That’s up from 73.8% on March 20.
The Federal Reserve will meet on Wednesday, March 22 to set interest rates. There are three things to watch from that meeting. First, whether the Fed will raise interest rates or not and by 25 basis points, 50 basis points, or not at all. Second, we will get the first update of the Dot Plot since the December 14 meeting that projects what Fed officials think interest rates, inflation, unemployment, and GDP growth will be at the end of 2023 and 2024. Third, the financial market reaction to the news out of the meeting will tell us if the Fed (as I’d argue) has lost control of the interest rate narrative and that the bond market is now calling the direction and pace of changes in interest rates.
The European Central Bank raised its benchmark short-term interest rate by another 50 basis points today. The bank said that the European banking system has strong capital and liquidity positions in spite of problems at Credit Suisse that led that bank to borrow $54 billion from the ECB yesterday. Fighting inflation remains the bank’s top priority.
Shares of Credit Suisse (CS) fell this morning–if a 31% drop at the worst moment can be called “falling”–after the bank’s biggest shareholder said it would NOT put more money into the challenged bank. As of noon New York time, shares of Credit Suisse were down 24.1%. The bank’s bonds fell to levels that signal deep financial distress, with securities due in 2026 dropping 17.75 cents to 70 cents on the dollar in New York. That puts their yield at about 20 percentage points above U.S. Treasuries.
February core inflation, measured by the Consumer Price Index, climbed from January at a faster month-to-month pace, according to this morning’s report from the Bureau of Labor Statistics. Core inflation, which excludes theoretically more volatile food and energy prices, rose at a 0.50% month-to-month rate in the month after climbing at a 0.40% month-to-month rate in January. That put core inflation on a 5.5% annual pace. This wasn’t what the Federal Reserve needed to hear as it wrestles with the problem of what to do to contain inflation still running at well above the central bank’s 2% target (and which threatens to edge higher again) at a time when the banking system is showing systemic stress brought on by the Fed’s aggressive interest rate increases. Here are the Fed’s choices.
Tomorrow’s CPI inflation report for February will show whether the Federal Reserve faces a very difficult task in bringing down inflation without crashing the economy (and/or the banking system) or whether the job is simply impossible. Right now economists are pointing toward impossible. The annual inflation rate is likely to have come down in February from January but the month-to-month trend is likely to be flat. Which means that inflation has stopped declining with the annual rate well above the Fed’s 2% target rate.
Private payrolls increased by 242,000 in February, according to the ADP National Employment Report. Economists surveyed by the Wall Street Journal had been looking for the economy to add 205,000 jobs in the month. The February increase was well above the revised January total of 119,000 new jobs. While the jobs report issued by the Bureau of Labor Statistics doesn’t always track closely to the ADP report, the stronger-than-expected new job total in today’s data certainly suggests that Friday’s official government report could also come in hotter than expected. Right now economists are looking for the economy to add 225,00 jobs in February according to the official data.
