- The Federal Reserve is set to leave rates unchanged for a second consecutive meeting.
- While inflation is easing, its slow retreat and buoyant job market keep officials alert.
- Fed Chair Jerome Powell will likely stick to the bank's forecasts for another potential hike in December.
- The US Dollar may get a bump from an ongoing hawkish stance.
The last mile is the longest – also when it comes to the fight against inflation. Has it fallen enough? This is a critical question for Federal Reserve (Fed) officials, who are set to leave interest rates unchanged but could still signal a move in December. Markets are pricing out further hikes and could face a nasty surprise.
Here is a preview of the Fed decision, due on Wednesday at 18:00 GMT.
Fed background: Inflation is retreating, labor market remains hot
The holy grail for central banks is 2% annual inflation. Raising rates to a range of 5.25%-5.50% from near 0% and other factors brought headline inflation from 9.1% YoY in June 2022 to a trough of 3%. However, inflation has lifted its head to 3.7%.
Officials are more worried about underlying inflation, which excludes volatile energy and food prices set on global markets. The grind here is slower. Underlying inflation, as measured by the Core Consumer Price Index (Core CPI), has dropped from a peak of 6.6% in September 2022 to 4.1% in September.
Core CPI. Source: FXStreet
The Federal Reserve's overnight rate stands at a range of 5.25%-5.50%, above both measures of inflation and in the so-called "restrictive territory." The bank significantly slowed the pace of raising rates, settling for one hike in the past three meetings, back in July. Another "no-change" decision is expected now.
On the other hand, in its latest decision, the Fed indicated another hike coming this year. The bank's dot plot showed a target of 5.6% by year-end, leaving the door open to another move.
Summary of Economic Projections. Source: Fed
With no new forecasts at this juncture, Fed Chair Jerome Powell will likely insist on another move, leaving his options open. One reason to do that is the buoyant jobs market.
The US Federal Reserve stands out among central banks by having two mandates: price stability and full employment. With a bustling labor market, the Fed was focused on inflation – yet relentless hiring means more money in Americans' pockets, available to push prices higher.
The Nonfarm Payrolls (NFP) report showed a leap of 336,000 jobs in September, nearly doubling early expectations.
Nonfarm Payrolls. Source: FXStreet
US Dollar hinges on Powell words
With inflation slowly falling and an active job market, Fed Chair Jerome Powell has good reasons to insist another hike is on the cards. A hawkish stance would also offset the decision, not to raise rates, which is fully priced in.
Bond markets see no chance of a hike in November, and give only a 24% chance of a move in December, the last Fed meeting for 2023. This means that a hawkish stance will catch them off guard.
Bond-market pricing of Fed moves. Source: CME Group
I expect Powell to prop up the US Dollar, hit stocks, and weaken Gold.
What is the risk to my outlook? The same bond market. Returns on US 10-year Treasuries have leaped and remain close to 5%. Higher long-term interest rates depress mortgage lending and long-term investment loans.
Fed officials have acknowledged that Treasuries are doing part of the job for the bank. This global benchmark rose from under 3.50% in the spring to near 5% in the autumn.
US 10-year yields. Source: TradingView
If Powell emphasizes the recent leap in yields as a factor that may restrain further Fed tightening, the opposite may happen – the Greenback would weaken, stocks would party and Gold would advance.
I lean toward a more hawkish approach and a risk-off response.
Final thoughts
Responses to the Fed decision come in several waves – the knee-jerk reaction coming immediately after the statement is out, the reactions to Powell's comments, and further aftershocks.
Market pricing just ahead of the event is also critical.The US Dollar slid in the hours preceding the Fed's September decision, only to reverse course, and more. All in all, it is a volatile event, and I urge trading with care.
Information on these pages contains forward-looking statements that involve risks and uncertainties. Markets and instruments profiled on this page are for informational purposes only and should not in any way come across as a recommendation to buy or sell in these assets. You should do your own thorough research before making any investment decisions. FXStreet does not in any way guarantee that this information is free from mistakes, errors, or material misstatements. It also does not guarantee that this information is of a timely nature. Investing in Open Markets involves a great deal of risk, including the loss of all or a portion of your investment, as well as emotional distress. All risks, losses and costs associated with investing, including total loss of principal, are your responsibility. The views and opinions expressed in this article are those of the authors and do not necessarily reflect the official policy or position of FXStreet nor its advertisers. The author will not be held responsible for information that is found at the end of links posted on this page.
If not otherwise explicitly mentioned in the body of the article, at the time of writing, the author has no position in any stock mentioned in this article and no business relationship with any company mentioned. The author has not received compensation for writing this article, other than from FXStreet.
FXStreet and the author do not provide personalized recommendations. The author makes no representations as to the accuracy, completeness, or suitability of this information. FXStreet and the author will not be liable for any errors, omissions or any losses, injuries or damages arising from this information and its display or use. Errors and omissions excepted.
The author and FXStreet are not registered investment advisors and nothing in this article is intended to be investment advice.
Recommended Content
Editors’ Picks
EUR/USD treads water just above 1.0400 post-US data
Another sign of the good health of the US economy came in response to firm flash US Manufacturing and Services PMIs, which in turn reinforced further the already strong performance of the US Dollar, relegating EUR/USD to the 1.0400 neighbourhood on Friday.
GBP/USD remains depressed near 1.2520 on stronger Dollar
Poor results from the UK docket kept the British pound on the back foot on Thursday, hovering around the low-1.2500s in a context of generalized weakness in the risk-linked galaxy vs. another outstanding day in the Greenback.
Gold keeps the bid bias unchanged near $2,700
Persistent safe haven demand continues to prop up the march north in Gold prices so far on Friday, hitting new two-week tops past the key $2,700 mark per troy ounce despite extra strength in the Greenback and mixed US yields.
Geopolitics back on the radar
Rising tensions between Russia and Ukraine caused renewed unease in the markets this week. Putin signed an amendment to Russian nuclear doctrine, which allows Russia to use nuclear weapons for retaliating against strikes carried out with conventional weapons.
Eurozone PMI sounds the alarm about growth once more
The composite PMI dropped from 50 to 48.1, once more stressing growth concerns for the eurozone. Hard data has actually come in better than expected recently – so ahead of the December meeting, the ECB has to figure out whether this is the PMI crying wolf or whether it should take this signal seriously. We think it’s the latter.
Best Forex Brokers with Low Spreads
VERIFIED Low spreads are crucial for reducing trading costs. Explore top Forex brokers offering competitive spreads and high leverage. Compare options for EUR/USD, GBP/USD, USD/JPY, and Gold.