Federal Reserve Chair Jerome Powell began his Semiannual Monetary Policy Report to Congress on March 7th by acknowledging the hardship and impact high inflation has on the U.S. economy. He recognized the importance of price stability, suggesting without it, a sustained period of labor market conditions that would benefit all cannot be achieved. He continued by giving an economic outlook and reviewing the data from the last quarter of 2022 showing higher than expected inflation since the last FOMC meeting. In regard to additional interest rate hikes, Powell said,
“We continue to anticipate that ongoing increases in the target range for the federal funds rate will be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2 percent over time.”
By Thursday morning, the market was pricing a 0.5% rate increase with 60% probability in the coming FOMC meeting. However, after the collapse of Silicon Valley Bank (the 16th largest bank in the U.S.) on Friday and with other regional banks under pressure, the market is now pricing a 0.25% rate increase with 70% probability and a 30% chance of no rate increase at all. Yet, with CPI, producer prices, and retail sales data due this week, the Federal Reserve’s credibility is on the line. If Tuesday’s CPI report comes in higher than expected or with no signs of weakening, the Fed will most likely see the need to raise interest rates. The decision will not be easy as market participants think the Fed will not want to add more pressure to the economy at a time when they are trying to manage a financial panic in the banking sector.
These recent events have caused stocks to lose most of this year’s gains, pressuring bullish sentiment. Chair Powell reiterated the Central Bank’s commitment to deliver price stability and expects the Fed will continue raising rates to tame inflation until their 2% inflation goal is reached. The frequency and magnitude of hikes is what is in question. Some Fed officials are starting to see the terminal rate will need to be higher than originally anticipated. As I mentioned in the last post, the Fed will most likely continue its path unless something breaks or their target is reached. Will that “something” be the banking system?
S&P Regional Banks Select Industry Index Total Return (SPSIRBKT Index) – 6-month daily chart
