This story has been updated.
The hotter-than-expected December 2023 inflation report, released Thursday morning, disturbed investors, although many strategists doubted it would affect the expected interest rate reductions from the Federal Reserve long-term. The larger question is, there’s a wide gap between the level investors think rates will fall to and where Federal policymakers think rates will settle.
In short, investors predict the Fed will cut deeper than do the actual people who will do the cutting.
Futures market investors project the Fed will start cutting at its March meeting, lopping a quarter percentage point off the benchmark fed funds rate, currently in a band from 5.25% to 5.5%. Right now, according to the St. Louis Fed’s statistics, it is at 5.35%. By the end of 2024, investors believe the benchmark will sit at 3.75% to 4.0%.
Fed policymakers, however, anticipate the level to be higher at year’s end, expecting 4.6%, according to their “dot plots” predictions issued after their December meeting. Fed Chair Jerome Powell and other Fed officials have indicated that any rate decisions will occur later this year and will depend upon progress in reducing inflation.
The December Consumer Price Index report showed an annual increase of 3.4%, up from 3.1% in the November 2023 CPI report. The new CPI print was slightly more than the forecast of 3.3%. Still, the December number is down considerably from the peak hit in June 2022 of 9.1%. Alexandra Wilson-Elizondo, deputy CIO of multi-asset solutions at Goldman Sachs Asset Management, commented Thursday morning that the December report is unlikely to alter the downward trend anticipated for rates.
Powell has expressed hesitancy about declaring victory over inflation, preferring to see if it re-ignites before committing to any cuts. At his December press conference, the chair said the Fed is happy with the inflation rate deceleration but noted that “we need to see more.” He has made clear that the central bank’s hiking campaign is over.
To Jan Szilagyi, CEO at market research firm Toggle AI, the Fed’s hesitancy is understandable—especially with the economy seeming to be doing well, as exemplified by current high employment.
“A lot of the decline that we have seen so far was food and energy-related. So it’s not really something that the Fed can impact directly,” Szilagyi said in a statement. Thus, “looking at the labor market, looking at inflation, you are seeing a reason to tread a little bit more cautiously.”
Tags: CPI, fed funds rate, Federal Reserve, futures market, Inflation, Jan Szilagyi, Jerome Powell