Federal Reserve Board Chairman Jerome Powell spoke during a news conference following the Federal Open Market Committee meeting 14 June 2023. AFP.
The Federal Reserve kept its fed funds rate on hold at 5.00-5.25% - as widely expected - to assess the impact of last year’s rate hikes on activity this year. But officials were still hawkish.
The Federal Open Market Committee surprisingly forecast two further 25bps hikes.
The FOMC statement kept its bias to tighten policy and Chairman Powell indicated another hike in July was likely if inflation remains far above the Fed’s 2% target.
The Fed’s stance increases the risk of recession so longer-term Treasury yields are likely to fall again this year.
Federal Reserve Board Chairman Jerome Powell spoke during a news conference following the Federal Open Market Committee meeting 14 June 2023. AFP.
For the first time in eleven meetings, the Federal Reserve kept its fed funds rate on hold at 5.00-5.25% as the chart below shows. The widely expected decision gives the Federal Open Market Committee time to review the impact of last year’s rate hikes on activity this year: ”the Committee decided to maintain the target range for the federal funds rate at 5 to 5-1/4 percent. Holding the target range steady at this meeting allows the Committee to assess additional information and its implications for monetary policy.”
Source: Bank of Singapore, Bloomberg.
However, the Fed’s meeting was surprisingly hawkish still. Firstly, the FOMC forecast two more 25bps hikes would be likely to curb inflation. This would lift the fed funds rate to 5.50-5.75%, its highest level since 2001 as the second chart shows.
Source: Bank of Singapore, Bloomberg.
Secondly, the FOMC kept its hawkish bias to increase interest rates further and continue quantitative tightening by shrinking the Fed’s balance sheet, referring to “the extent of additional policy firming that may be appropriate to return inflation to 2 percent.”
Thirdly, Chairman Powell indicated another hike in July was likely if inflation remains well above the Fed’s 2% target. “I would say about July, two things. One, a decision hasn't been made. Two, I do expect that it will be a live meeting.”
Thus, we now expect a further 25bps rate hike next month given the FOMC’s new forecasts and Powell’s post-meeting comments. We think the fed funds rate will peak at 5.25-5.50% in July and we keep our view that interest rate cuts will not start until March 2024. The FOMC’s new forecasts project core PCE (personal consumption expenditure) inflation to fall from 4.7% currently to only 3.9% by the end of 2023. In addition, May’s consumer price index report showed core CPI inflation was still 5.3% last month, far above the central bank’s 2% goal.
The Fed’s hawkish stance boosts the risk of recession in the second half of the year. This remains our base case. We therefore continue to expect 10Y Treasury yields will fall over the next 12 months to 3.25% - rather than making new highs this year above 4.00% - benefiting safe-haven hedges against recession risks including gold and high-quality corporate bonds.
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