Markets can do Powell’s work for him

Federal Reserve Chairman Jerome Powell testifies during the Senate Banking Committee hearing titled “Semi-Annual Monetary Policy Report to Congress,” in Washington, U.S., March 3, 2022. Tom Williams/Pool via REUTERS /

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WASHINGTON, March 24 (Reuters Breakingviews) – Markets can provide useful help to the Federal Reserve. US central bank president Jerome Powell has been talking aggressively about interest rate hikes. The Eurodollar yield curve implies that the Fed will go overboard with rapid hikes, which will then need to be cut. In response to expectations, investors and businesses could cut spending and investment in a way that eases inflation, without Powell needing to move as much on rates.

In Powell’s most aggressive comments to date Monday, he said that the Fed could hike in bigger steps than last week’s 25 basis point hike. Also, it can raise rates beyond what is considered the neutral level at which monetary policy neither helps nor hurts the economy. The Fed’s most recent median forecast for next year’s rate is 2.8%, compared to what Piper Sandler estimates as the nominal neutral rate of around 2%.

Investors have taken notice of the big rhetorical U-turn in easy money policies. The Eurodollar yield curve, which may be a window into what the market thinks the Fed will do, hit a high of 2.96% in June 2023 as of Thursday morning. But then it reverses in the second half of 2023, suggesting that investors think long-term rates will be lower than short-term rates. If that holds true, it would be one of the fastest reversals after a rate hike liftoff Read More

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The expectations could prompt decision makers to react more quickly, reshaping the economy. Rate changes typically take months or even years to complete. But the Business Roundtable CEO Outlook Survey for the first quarter shows capital investment plans falling nine points, suggesting corporate bosses are already cutting spending.

Changes in sentiment are surfacing elsewhere. US corporate debt markets have ground to a halt as investors readjust their risk appetite in what could be a sharply reversal rate environment. Mortgage application volume decreased 8% in the week ending March 18 compared to the prior week, and refinance applications decreased 14% from the prior week and 54% from the prior week week of the previous year, according to the Mortgage Bankers Association.

The risk is that Powell is so aggressive in his rhetoric that the market moves too fast. But if inflation is contained without Powell doing as much, the market could avoid the kinds of shocks it currently believes are coming.

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(The author is a columnist for Reuters Breakingviews. The opinions expressed are her own.)

CONTEXT NEWS

– US Federal Reserve Chairman Jerome Powell said on March 21 that the central bank was prepared to move more aggressively on rate hikes if warranted by inflation.

– Said that means the Fed could raise rates by more than 25 basis points at future meetings. Right after his speech, investors raised the probability of a 50 basis point hike at the Fed’s May meeting to around 68%, compared with half of investors counting on a 25 basis point jump before. of Powell’s comments, according to the CME FedWatch Tool.

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Edited by Lauren Silva Laughlin and Pranav Kiran

Sign up for a free trial of our full service at https://www.breakingviews.com/trial and follow us on Twitter @Breakingviews and in www.breakingviews.com. All opinions expressed are those of the authors.

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