Fed policymakers stick to cautious script after April CPI inflation sparked rate cut hopes

  • Fed policymakers’ comments on policy outlook will be scrutinized by investors this week.
  • Markets see a waning probability of a Fed policy hold in September.
  • Fed rate outlook could influence the US Dollar’s performance against its major rivals.

Federal Reserve (Fed) policymakers are scheduled to deliver speeches throughout this week as investors reassess the interest rate outlook following the April Consumer Price Index (CPI) data. According to the CME FedWatch Tool, the probability of a no change in the Fed’s policy rate in September holds around 35%.

Richmond Fed President Thomas Barkin, NY Fed President John Williams, Boston Fed President Susan Collins and Cleveland Fed President Loretta Mester are among the Fed officials that are set to speak on Tuesday.

Atlanta Fed President Raphael Bostic said earlier in the day that the Fed has to be cautious about the first rate move, adding that it may need to be later in order to not stoke pent-up exuberance for investment and other spending. Meanwhile, Fed Governor Christopher Waller noted that he needs to see several more months of good inflation data before being comfortable to support an easing in the policy.

Fed’s Bostic: Fed has to be cautious about first rate move.

Fed’s Waller: Several more months of good inflation data needed before supporting easing in policy.

Fed Governor Waller added further comments on Tuesday, cautioning that the Fed’s data-dependent approach may not see the need for rate cuts until the end of the year. However, Fed’s Waller pointed out that if the Fed were to start a cutting cycle, a single rate cut doesn’t make a lot of sense.

Waller additional comments:

Policy will have to bite to bring inflation down.

I am starting to see policy put downward pressure on demand.

If the data warrants, we could consider a cut at the end of the year.

The idea of only one cut doesn’t make a lot of sense.

Interest rates FAQs

Interest rates are charged by financial institutions on loans to borrowers and are paid as interest to savers and depositors. They are influenced by base lending rates, which are set by central banks in response to changes in the economy. Central banks normally have a mandate to ensure price stability, which in most cases means targeting a core inflation rate of around 2%. If inflation falls below target the central bank may cut base lending rates, with a view to stimulating lending and boosting the economy. If inflation rises substantially above 2% it normally results in the central bank raising base lending rates in an attempt to lower inflation.

Higher interest rates generally help strengthen a country’s currency as they make it a more attractive place for global investors to park their money.

Higher interest rates overall weigh on the price of Gold because they increase the opportunity cost of holding Gold instead of investing in an interest-bearing asset or placing cash in the bank. If interest rates are high that usually pushes up the price of the US Dollar (USD), and since Gold is priced in Dollars, this has the effect of lowering the price of Gold.

The Fed funds rate is the overnight rate at which US banks lend to each other. It is the oft-quoted headline rate set by the Federal Reserve at its FOMC meetings. It is set as a range, for example 4.75%-5.00%, though the upper limit (in that case 5.00%) is the quoted figure. Market expectations for future Fed funds rate are tracked by the CME FedWatch tool, which shapes how many financial markets behave in anticipation of future Federal Reserve monetary policy decisions.

The Fed has adopted a cautious tone regarding the timing of the policy pivot following the stronger-than-expected inflation readings in the first quarter of the year. The US Bureau of Labor Statistics reported on May 15 that the core Consumer Price Index (CPI) rose 3.6% on a yearly basis in April. This reading followed the 3.8% increase recorded in March and came in line with the market expectation. On a monthly basis, the CPI and the core CPI both rose 0.3% after rising 0.4% in March. The US Dollar (USD) came under bearish pressure as market participants assessed the inflation data and the USD Index fell to its lowest level in over a month, losing over 0.7% on a weekly basis.

San Francisco Fed President Mary Daly noted on Monday that, while she expects shelter inflation to slowly improve, she said that she doesn’t expect progress to be quick. Fed’s Daly also noted that she is not confident that inflation is sustainably coming down to the Fed’s 2% inflation target.

Fed Vice Chair for Supervision Michael Barr said that the Fed is in a good position to hold the policy steady and watch the economy, per Reuters. Meanwhile, Fed Vice Chair of the Board of Governors Phillip Jefferson acknowledged that April’s better inflation reading was encouraging and added that it was too early to tell if the recent slowdown in disinflationary process will be long-lasting.

Last week, Fed Board of Governors member Michelle Bowman said that progress on inflation may not be as consistent as many hoped. Cleveland Fed President Mester emphasized that maintaining the current levels of Fed policy will aid in returning still-elevated inflation to the 2% target. Richmond Fed President Thomas Barkin told CNBC last Thursday that the latest Consumer Price Index (CPI) data showed that inflation was not where the Fed is trying to get. Finally, New York Fed President Williams argued that there was no need for a rate cut in the near term.

Fed FAQs

Monetary policy in the US is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability and foster full employment. Its primary tool to achieve these goals is by adjusting interest rates. When prices are rising too quickly and inflation is above the Fed’s 2% target, it raises interest rates, increasing borrowing costs throughout the economy. This results in a stronger US Dollar (USD) as it makes the US a more attractive place for international investors to park their money. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates to encourage borrowing, which weighs on the Greenback.

The Federal Reserve (Fed) holds eight policy meetings a year, where the Federal Open Market Committee (FOMC) assesses economic conditions and makes monetary policy decisions. The FOMC is attended by twelve Fed officials – the seven members of the Board of Governors, the president of the Federal Reserve Bank of New York, and four of the remaining eleven regional Reserve Bank presidents, who serve one-year terms on a rotating basis.

In extreme situations, the Federal Reserve may resort to a policy named Quantitative Easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used during crises or when inflation is extremely low. It was the Fed’s weapon of choice during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy high grade bonds from financial institutions. QE usually weakens the US Dollar.

Quantitative tightening (QT) is the reverse process of QE, whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing, to purchase new bonds. It is usually positive for the value of the US Dollar.

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