Markets expect the Federal Reserve to hike rates 0.25-percentage-points at their upcoming May 3 interest rate decision. There’s a 7 in 10 chance of a hike according to fixed income futures, with a 3 in 10 chance of holding rates steady. That’s because with March’s economic data, as reported in April, inflation continues to run hot, compared to the Fed’s target, and recent unemployment numbers don’t imply a recession, despite some potential softness. That said, inflation is moving closer to the Fed’s goal, just at a slower pace than the Fed wants to see.
Hawkish Fed Minutes
The Fed have repeatedly stressed their intent to bring down inflation, and have signaled further hikes in their interest rate forecasts disclosed at the time of the March 21-22 meeting. The minutes from the Fed’s last meeting, released this month suggested a “mild recession” was possible. Still, the Fed’s focus appears to be on “unacceptably high inflation” and “slower-than-expected progress on disinflation”. The minutes did show that if the Fed weren’t assessing the impact of the very recent banking crisis during the March meeting almost in real time, then then some policy makers would have favored raising rates by a greater 0.50-percentage-points. This generally hawkish tone suggests a potential rate hike for May.
Disconnect Between Fed and Wall Street
Although the likelihood is that the Fed hikes in May, beyond that the Fed and markets see divergent paths for interest rates. The Fed sees the potential for a few more small hikes, with rates remaining high for the remainder of 2023. In contrast, fixed income markets see the Fed starting to cut by the summer, likely due to greater economic weakness than the Fed anticipates.
With certain key economic data now received before the Fed’s next meeting, and the publication of the minutes of the last Fed meeting striking a hawkish tone, another interest hike is probable when the Fed meets on May 3. That said, the chance that the Fed could hold rates steady remains a possibility if signs of economic weakness increase before the Fed meets again.
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