Yesterday on Wall Street, we observed a consolidation of the major stock indexes. There were also minor changes in the yields of U.S. Treasury bonds. The EUR/USD exchange rate rose above 1.08, while gold corrected from $2375 to $2335. Investors are awaiting Wednesday’s U.S. inflation report, which may strengthen the narrative of higher interest rates for a longer period this year. Currently, Fed Funds Futures contracts are pricing in a total cut of 27 basis points by the FOMC meeting on November 7, and 41 basis points by December. The probability of a June rate cut by the American institution is very low at this moment.
In the first three months, consumer prices in the United States sharply increased, following a fairly dynamic disinflation process throughout last year. The April reading will likely also indicate a rise in the CPI index, though it may be somewhat smaller than in previous periods. In the near future, the Fed will find it difficult to fully control inflation, which will likely remain slightly above the target for a longer time.
Jerome Powell, the Federal Reserve chairman, acknowledged during the last conference that no further progress towards the Fed’s target was made in the first quarter. If we look at the core index, which excludes energy and food prices, we recently saw a monthly dynamic of 0.4%, which is double the target set by the American institution.
What is now primarily driving inflation is the rapid increase in wage costs, which are being passed on to consumers using services. On the other hand, falling goods prices are bringing some relief.
Until recently, the market speculated that the Fed would lower interest rates in June. Now, this timeline is almost entirely dismissed by the market, with speculation pointing towards September or December. All indications are that the Fed’s projections from late 2023 and March (similar to previous ones) regarding the path of interest rates might not materialize, though it cannot be entirely ruled out, as the economy may surprise us in the coming months, forcing the Fed to respond.
The Federal Reserve repeatedly states that monetary policy will be determined by incoming data. Recently, certain economic signals have emerged that may help in fighting inflation. For instance, the latest employment report details showed that the growth in average hourly earnings was below expectations, and the number of new jobs was 175,000 – the worst result in half a year. The number of job vacancies continues to shrink, as indicated by the JOLTS survey, with data beginning to show levels seen before 2019. In the longer term, a slowdown in wage growth is expected, which indirectly reduces inflationary pressure. However, a few more weak reports are needed before the Fed can be confident that the changes are permanent and moving in the expected direction.
—Łukasz Zembik, Oanda TMS Brokers
