Evening Brief – 03.21.23

The evolving crisis in the banking sector has sowed doubt in the Federal Reserve’s ability to keep raising interest rates, arguably a policy that was the death knell for struggling regional banks.

Over the last year, the Fed has raised interest rates from nearly zero to 4.75% to tame inflation. But the Fed’s job has gotten more complicated. The recent bank closures have seen the US government swiftly take steps to maintain the stability of the financial system.

The market is pricing in a 72% chance of a quarter point rate hike on Wednesday. There are many who argue the Fed must hike 25bps to show they are serious about inflation. To that, remember when the inflation data was pointing to 50bps, and then wage pressures dropped?

Still, the uncertainty this close to a meeting is unusual since policymakers typically telegraph their intentions well in advance.

The Fed must thread the needle between the cost of its credibility of not maintaining its hawkish policy stance against chairing over a banking failure-induced economic downturn.

Yet, if Powell and his team stand pat it might signal the central bank is aware of something in the financial system that the markets do not know (yet); this could be just as damaging to an already fragile market environment.

If the Fed raises 25bps we may be looking at a summer long pause from additional rate hikes as credit conditions continue to tighten amid stress in the banking system.