Evening Brief – 03.22.23

The Federal Reserve raised the fed funds rate a quarter-point, its ninth increase in nearly a year, to a target range of 4.75%-5.00%, in line with most market participants’ expectations. Recent bank failures had investors questioning whether the central bank would follow through with its previous intention to further tighten monetary policy.

In its statement, the FOMC acknowledged the troubles in the banking system, saying “recent developments are likely to result in tighter credit conditions for households and businesses and to weigh on economic activity, hiring and inflation.”

The Fed suggested an end to rate hikes is near by removing a line from its statement about “ongoing increases.” The median forecast is for one more hike this year, with a terminal rate of 5.10% compared with 5.37% after the February meeting.

Meanwhile, the January 2024 fed funds futures contract is now trading at 4.22% from a peak of 5.50% at the end of February, implying a lot of easing in the system with more than 100bps of rate cuts by that time. In addition, the 2-year yield is back below 4% as the market prices in more easing than the Fed is willing to acknowledge.

Perhaps what the Fed understands is the extent the banking crisis morphs into a credit crunch, which appears to be the case now more than a couple of weeks ago, is that it is inherently disinflationary.

Whether the Fed views today’s hike as one last pop in the interest of not going against market expectations, which priced in an 80% chance of a 25bps hike, it’s probably why they were at least indirectly leaning toward the possibility that the end is near, even though based on what the dot plot show it suggests one more hike. At the very least, it left the door open for a pause at the next meeting, and possibly longer.

This is an economy that has remained more resilient than many expected after 450bps of tightening. But it is not one that is completely immune to tighter monetary policy.