The Fed’s door is open for a 0.75% rise after inflation data and market moves

US Federal Reserve Chairman Jerome Powell testifies during a Senate Banking Committee hearing entitled “Semi-Annual Monetary Policy Report to Congress,” in Washington, US, March 3, 2022. Tom Williams/Paul via Reuters/File Photo

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WASHINGTON (Reuters) – Declining inflation data and rapidly changing views of financial markets on Monday opened the door for a larger-than-expected three-quarter percentage point increase in interest rates when Federal Reserve officials meet this week.

It’s a move officials have played down as their two-day meeting looms in recent weeks, but they may now be willing to adopt it in response to data that has yet to show progress in taming the pace of price increases. The Wall Street Journal reported earlier on Monday the increased possibility of a sudden move, helping to drive more trade in Fed policy-related futures in that direction.

Fed officials have not commented publicly since the “blackout” period began before the meeting on June 4, and before that they said they were inclined to raise rates by half a point in a row at the June 14-15 policy meeting.

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But those forecasts were conditional, as Fed Chair Jerome Powell said at his May press conference, “Economic and financial conditions are broadly evolving in line with expectations. … The expectation is that we will start to see inflation, you know, fade.”

It did not.

Instead, Labor Department data released on Friday for May showed consumer price inflation accelerating to 8.6%. An alternative measure of “cut-off average” from the Cleveland Fed has also accelerated monitoring, indicating that price pressures are broad and not limited to groups of goods or services far away with prices particularly high.

Meanwhile, a raft of inflation expectations gauges on Friday and Monday moved in the wrong direction for the Fed, which it said is particularly sensitive to a loss of control over the public’s psyche regarding price pressures.

Markets quickly re-priced throughout Monday, with contract traders pegged to the Fed funds rate by late Monday betting almost certainly on a three-quarter point increase, which would be the first significant increase of this size since November 1994.

No decision will be made until the conclusion of the meeting on Wednesday after what is likely to be a full discussion about the risks that could push the economy into recession, and the risks it could pose to the Fed’s credibility after leaning strongly on increments of half a point enough for now.

The Fed has at times in the past pushed market repricing to suit its needs and used market movements as an opportunity to align its own policy.

In this case, the data shifting inflation expectations came at a time when Federal Reserve officials have been prohibited by internal rules from speaking publicly about how it affects their outlook.

Several media reports, following the initial report in the Wall Street Journal, indicated the possibility of a larger increase, however, markets began to move as a result, with many prominent Federal Reserve analysts, including at institutions such as JP Morgan and Goldman Sachs joins.

“Until we see some sort of informal clarification, unless we see some sort of informal clarification, we’re forced to take the reports at what we think is face value,” said Krishna Guha, vice president of ISI Evercore, who has been sticking to the half-point increase forecast. “Looks like we were wrong and a likely 75 after all this week.”

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(Howard Schneider reports). Editing by Dan Burns and Leslie Adler

Our Standards: Thomson Reuters Trust Principles.

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