The Fed is set to implement its first rate rise since 2018 as chairman Jerome Powell tries to temper inflation without battering growth after a confidence-draining month for Western economies.
The Federal Reserve Monetary Committee (FOMC) meets on Wednesday, with a distinct feeling among analysts that the group may pay later for a cautious 0.25% rate hike.
Most brokers are predicting the 25 basis point rise this month following statements by two FOMC members to this effect, with the meeting now seen more as a primer for the FOMC’s future strategy on quantitative tightening, and its outlook on inflation.
US inflation rose 7.9% last month owing to knock-on effects from Covid lockdowns and global supply chain issues, before the commodity-squeezing effects of the Russian invasion began to be factored into the data.
But temptations to strip the market of liquidity and easy borrowing are complicated by declining confidence, with US consumers' perceptions of current and future conditions at their lowest for 11 years, and 12-month inflation expectations of 5.1% their highest since 1981.
Meanwhile wage growth is slowing, implying companies have held off so far in providing price rises to combat a cost of living squeeze, and there is an increasing risk that overzealous rate hikes could further stoke stagflation fears.
Deutsche Bank is predicting six rate hikes this year, underlying the potential for one-off hikes bigger than the lightest-touch 0.25% rise, in addition to quantitative tightening designed to drawdown US$800bn of stimulus this year and $US1.1trn in 2023.
“On the one hand, the inflation outlook requires a firm monetary response - regardless of whether it is being driven by supply vs. demand dynamics. In addition, geopolitical risks also are very likely to further exacerbate the supply-driven inflation impact,” Deutsche Bank said.
“On the other hand, the conflict in Eastern Europe has shown the potential to weigh on financial conditions and cloud the growth outlook.”
The implications of the US’s expected hike will likely filter into the Bank of England’s rate decision on Thursday, and serve as a primer to next week’s Spring Statement.
Western central bankers are fighting similar fires of a united front against Russia and a consumer-heavy population hit by supply chain woes and the ramifications of economic stimulus.
Tightening US liquidity may add further woes to a UK economy more entrenched in rising fuel prices than its Atlantic neighbour and anticipating its third rate hike in as many months.
But Capital Economics’ chief economist Neil Shearing regards advanced economies like the UK and US as largely in the same boat, and is wary of monetary policy doing too much heavy lifting in response to exogenous energy shocks.
“First, there’s not much that monetary policy can do to influence energy prices since they are set in global markets,” Shearing said.
“Second, while a rise in energy prices increases inflation in the short term, all other things being equal, the subsequent squeeze on real incomes is disinflationary over the medium term.”