U.S. stubbornly high inflation has increased bets that the Federal Reserve (Fed) needs to actively raise interest rates to cool price pressures. The policy rate is expected to rise to 3% by the end of the year.
According to a report released by the U.S. Department of Labor on Friday (10th), rising food prices and record gasoline prices pushed the consumer price index (CPI) to 8.6% year-on-year in May, higher than market expectations of 8.3%. Inflated any hopes that had peaked last month.
The annual growth rate of the core CPI, which excludes energy and food prices, reached 6% in May. Although it was down from the previous value of 6.2%, it was still higher than the expected 5.9%, and it was also far from the slowing rate that Fed Chairman Powell said. “Clear and convincing” signs of cooling in price pressures are needed before interest rates.
At the same time, the U.S. consumer confidence index for June released on the same day fell to a record low, and consumers were worried regarding the outlook for inflation.
Greg McBride, chief financial analyst at Bankrate, said the view that inflation has peaked is over, and any hope that the Fed will slow down its rate hikes following its June and July meetings now looks unlikely.
Fed officials have all but committed to raising rates by two yards (50 basis points) each at their next meetings in June and July. Interest rate futures traders see a 2-yard rate hike as the most likely outcome of the Fed’s meeting next week, but current expectations are regarding a 20 percent chance of a 2-yard rate hike this month.
The odds of the Fed raising rates by 3 yards (75 basis points) in July are close to 50%, according to CME Group FedWatch data.
Elsewhere, the 2-year yield, the Fed’s benchmark for interest rate policy, posted its biggest gain in four months, rising above 3 percent for the first time since 2008. Analysts at Barclays said on Friday that the Fed has good reason to announce a larger-than-expected rate hike at its meeting next week.
The latest inflation data may also allow the Fed to raise interest rates by two yards during the September meeting, or even longer, to fight inflation. Futures linked to Fed rates show traders are now betting the Fed will raise rates by at least 2 yards by September, and possibly more. Futures reflected market expectations that the policy rate would be in a range of 3% to 3.25% by the end of the year.
The latest inflation report also makes it harder for the Fed to control inflation without destroying the job market and causing a recession.
Peter Cardillo, chief market economist at Spartan Capital Securities, said the May CPI data was too bad, predicting that the U.S. will enter a recession in the fourth quarter of this year, which is confirmed in the second quarter of 2023.
