Will the Fed Raise Interest Rates by 75 or 100 bps in September?
The US economy has been in a state of turmoil due to various factors, including the recent pandemic and global supply chain disruptions. While unemployment rates in the country have plummeted, the number of claims for unemployment benefits is still too high to ignore.
Then there’s the menace of inflation that looms large over the US. In June this year, inflation rose to 9.1%. That’s a record-high in more than 40 years.
These trends have compelled the Federal Open Markets Committee to frequently raise interest rates. Between March and July 2022, the US Fed increased the funds rate by 225 basis points or bps (1 bps = 1 percentage point). June and July saw startling hikes of 75 bps each, bringing the federal funds rate to 2.25%-2.50%.
After the Fed concluded its previous meeting on July 26 and 27, there were widespread speculations about the next big spike in interest rates. With the Fed’s September meeting now approaching, economists and financial analysts are still debating the possibility of another aggressive hike.
So, will the federal funds rate rise by another 75 or 100 bps? Let’s find out.
The consecutive 75 bps hikes in June and July raised concerns about the US economy heading toward another recession. However, a Bloomberg survey of 44 economists indicates that the Fed will slow the pace of interest rate hikes in the coming months after the second 75 bps increase.
According to the survey, the US central bank will likely raise interest rates by 50 bps in September. That’ll be followed by two 25 bps hikes at subsequent meetings of the year. That means the federal funds rate is projected to reach 3.25%-3.5% by the end of 2022.
Moreover, the survey forecasts another 25 bps increase in early 2023, which will bring the funds rate to 3.75%. Thereafter, the central bank will pause hikes and focus on bringing the interest rates down by the end of the year.
The Current State of Inflation
After June’s record-high inflation, there’s a ray of hope. Recent data indicates that US headline inflation fell to 8.5% in July (in contrast to projections of 8.7%). Also, core inflation reached 5.9% (beating market projections of 6.1%).
The positive trend can be attributed to decreasing energy costs. Additionally, while the labor market continues to be strong, consumer spending has also been steadily growing.
It’s also worth noting that the Core PCE Price Index (the Fed’s preferred unit for measuring inflation) fell from 4.8% in June to 4.6% in July (beating forecasts of 4.7%).
However, in his recent speech at the Jackson Hole Synagogue, Wyoming, US Fed Chair Jerome Powell warned that data from a single month isn’t enough to indicate that inflation has peaked. That means the Fed will continue to raise interest rates until the economy recovers further.
Furthermore, Powell emphasized that even at 4.6%, the Core PCE Price Index is still above the Fed’s target of 2%. He also hinted that another “unusually large” interest rate increase might be on the table at the September meeting.
Understanding the Impact
The ultimate objective of increasing the federal funds rate is to curb inflation in the US. But what’s the short-term and long-term impact on ordinary citizens?
To begin with, it’ll make mortgages and loans more expensive. Also, it’ll result in an increase in credit card interest rates. These factors could diminish an average consumer’s purchasing power, thus slowing down cash flow in the economy and ultimately driving inflation down.
But it can become difficult for companies to borrow money and expand their operations. That, in turn, can stall their growth and drive stock prices down.
Also, when interest rates head north, it can be tempting for investors to sell their assets to rake in more profits. That, in turn, can lower stock prices. However, historical data suggests a positive long-term impact of such interest rate increases on the stock market.
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Will They or Won’t They?
At the time of the Fed’s July announcement, the CME FedWatch tool showed a higher likelihood of a 50 bps increase than a 75 bps hike. But as of this writing, the probability of a 50 bps increase is close to 40%, while that of a 75 bps increase is roughly 60%.
Keeping all that data in mind, it’s safe to say that the Fed won’t announce a 100 bps increase. Instead, it’ll be a close call between 50 bps and 75 bps. Inflation data from August will play a key role in shaping that decision.