Forward looking Federal Reserve Resolution: How Powell Talks about Interest Rate Reductions and Is Scale Reduction Adjustment Revealed

How does FOMC evaluate inflation prospects and economic cooling pressure.

On April 30th local time, the two-day Federal Reserve monetary policy meeting will officially kick off in Washington.

As the inflation path becomes bumpy, the originally clear prospect of interest rate cuts by the Federal Reserve is overshadowed. The institution expects that the Federal Open Market Committee (FOMC) will continue to maintain interest rates unchanged, and Federal Reserve Chairman Powell’s attitude on interest rate cuts remains the focus. Meanwhile, after meeting minutes and successive statements from Federal Reserve officials, the details of the adjustment of the balance sheet became another highlight.

('The latest resolution of the Federal Reserve is coming (source: Xinhua News Agency image)',)(‘The latest resolution of the Federal Reserve is coming (source: Xinhua News Agency image)’,)

Soft landing becomes stagflation?

The latest economic data has turned a soft landing or even non landing situation into a concern for stagflation. The slowdown in economic growth in the first quarter of the United States exceeded expectations, but the accelerated rebound in inflation indicates that it is difficult for the Federal Reserve’s policy to shift in the short term.

The US economy is growing at its slowest pace in nearly two years. The Economic Analysis Bureau of the US Department of Commerce stated that the annualized growth rate of GDP in the previous quarter was 1.6%, lower than the long-term sustainable growth rate of 1.8%; Consumer spending is growing at a rate of 2.5%, significantly lower than the previous 3.3% growth rate. Economists are concerned that low-income families have exhausted their savings and heavily rely on debt to fund purchases. Recent data and comments from US financial institutions indicate that low-income borrowers are increasingly struggling to repay loans. At the same time, corporate inventories, trade deficits, and government spending have also become factors that drag down the economy.

It is worth noting that signs of economic cooling in the United States continue, with the S&P Global US Manufacturing Purchasing Managers Index (PMI) returning below the boom bust line in April, and the service sector PMI dropping from 54.0 in March to a five month low of 50.9 this month.

S&P stated that high interest rates and high inflation have weakened customer demand. New orders are a sign of future sales, with a decline for the first time in six months, leading companies to become more pessimistic about the economic outlook. “The company’s response is to reduce employment for the first time in nearly four years, and business confidence has also dropped to the lowest level since November last year. Raw material prices continue to rise, putting pressure on manufacturers.”

('Does the PMI of the service industry predict a turning point in the US economy (source: Tradeeconomics website)',)(‘Does the PMI of the service industry predict a turning point in the US economy (source: Tradeeconomics website)’,)

The repeated inflation has brought about the haze of stagflation. The core personal consumption expenditure price index (PCE), excluding food and energy, rose at a rate of 3.7% in the first quarter, far exceeding market expectations. The highly anticipated University of Michigan consumer sentiment survey shows that one-year and five-year inflation expectations are 3.2% and 3%, respectively, reaching the highest level since November 2023.

At the same time, as the number of initial jobless claims continues to be low, the labor market situation remains tense, exacerbating the risk of inflation stickiness. The market’s concerns about the Federal Reserve delaying interest rate cuts have intensified, pushing medium – and long-term US bond yields to their highest levels since November last year.

Jamie Dimon, CEO of JPMorgan Chase, recently expressed concerns that inflation may not disappear as expected. “So I considered the possible range of results. A soft landing is possible, and I’m a bit worried that it might not go so smoothly.” Damon estimated that the market thinks the likelihood of a soft landing is 70%, “I think it’s half.”

Is the table reduction adjustment approaching

Due to the lack of economic forecasts for the FOMC May meeting,

Recent comments from Federal Reserve officials indicate that the necessity of interest rate cuts is no longer as urgent as during the last meeting, but most people still expect some degree of easing later this year.

BK Asset Management macro strategist Boris Schlossberg said in an interview with First Financial that Powell may reiterate the need for patience, but still hinted that interest rate cuts are still possible. “However, investors will try to measure how confident Powell is in a significant drop in inflation in the coming months, which will determine the size of policy space.”

Federal funds rate futures show that the market expects the Federal Reserve to lower interest rates by 36 basis points at the end of the year, with less than two rate cuts.

Bob Schwartz, senior economist at the Oxford Institute of Economics, previously told First Financial that the Federal Reserve is closely monitoring the accelerated rise in core service prices, which is largely influenced by labor costs and is a huge obstacle that inflation needs to overcome on the road to achieving the Federal Reserve’s 2% target.

Schwartz believes that the strength of the labor market and the recent rise in inflation have given the central bank patience to wait for room for maneuver. “If the Federal Reserve does not cut interest rates in June, this window may close until September because there is almost no data between the June to July meetings that can change the Federal Reserve’s evaluation of the data. Overall, the Fed’s decision to cut interest rates three times this year is likely to be difficult to achieve,” he analyzed.

Morgan Stanley economist Michael Feroli predicts that Powell may repeat the views earlier this month, letting data and prospects guide policy. “The post meeting statement may have hardly changed compared to the March meeting. Powell will once again emphasize that the Federal Reserve will postpone interest rate cuts as needed, but is also prepared to take action as soon as data allows.”

“The key factor here is whether wage growth will remain moderate, and any acceleration in average hourly income could trigger a new round of interest rate panic,” Schlossberg told First Financial reporters

The Federal Reserve discussed adjustments to its quantitative tightening (QT) plan at its last meeting. In the early stages of the pandemic, the Federal Reserve purchased $5 trillion in assets to support the economy and financial markets. Since mid-2022, the balance sheet has decreased by $1.5 trillion. The minutes show that when discussing how to adjust the speed of balance sheet reduction, participants generally agree with a cautious attitude. Participants preferred to maintain the existing ceiling of institutional MBS and adjust the redemption ceiling of US treasury bond bonds to slow down the pace of reduction.

Dansk Bank stated in a report to First Financial reporters that the Federal Reserve may announce the pace of reducing QT at this meeting. The Federal Reserve is not in a hurry to downsize, but the latest comments indicate that decision-makers tend to adopt a “slow adjustment” approach to the pace of QT to avoid a recurrence of the liquidity crisis in 2019. The bank believes that in any case, the decision will not have a significant impact on the financial situation.