This week, all eyes in the financial markets are focused on the upcoming Tuesday/Wednesday FOMC meeting. Following the meeting’s conclusion on Wednesday, Federal Reserve Chair Jerome Powell will conduct his customary press conference. Moreover, the FOMC will release its updated macroeconomic forecasts and the dot-plot projection for the federal funds rate.
Market sentiment currently suggests that there is virtually no expectation of the FOMC raising the federal funds rate during this week’s meeting. The current range for the federal funds rate stands at 5.25-5.50%. Over the past 1-1/2 years, the FOMC has already hiked its funds’ rate target significantly by 5.25 percentage points, marking one of the most substantial rate increases since the period of 1978-82 when then-Chair Paul Volcker waged a relentless battle against inflation, pushing the funds’ rate into double digits.
One of the primary reasons the Fed is likely to maintain the status quo this week is the looming threat of a UAW (United Auto Workers) strike and a potential U.S. government shutdown on September 30. Given these uncertainties, the FOMC is expected to exercise caution and refrain from making any immediate rate adjustments.
For this week, the FOMC’s strategy appears to be one of patience, with a focus on assessing incoming data to determine whether further rate hikes are necessary to curb demand and inflation. Presently, the market assigns a 31% probability that the FOMC will implement a +25 basis point rate hike at its next meeting in November, with a +13% chance of such a hike occurring in December.
However, market expectations diverge starting in 2024, with an anticipation that the Fed will commence lowering its funds rate target in response to anticipated economic weakness and declining inflation. By the end of 2024, the markets foresee a total reduction of -52 basis points, bringing the funds rate down to 4.81% from the current effective federal funds rate of 5.33%. By the conclusion of 2025, the markets project an even more substantial cut of -112 basis points, lowering the funds rate to 4.21%.
The pivotal event this Wednesday will be the release of the Fed’s latest dot plot, which will provide insight into the Fed’s thinking regarding the necessity of another rate hike and the duration for which rates will remain above the 5% threshold. In the previous dot-plot issued after the June meeting, the Fed projected the funds rate to conclude 2023 at 5.6%, implying one more +25 basis point rate hike by year-end. Subsequently, it forecasted the funds rate to decline to 4.6% by the end of 2024 and further decrease to 3.4% by the end of 2025. The FOMC’s longer-term outlook positions the funds rate at 2.5%, suggesting a potential 283 basis point reduction from the current level.
While market expectations for this week’s dot-plot are relatively stable, traders would welcome any indication from the Fed of a reduction in its end-2023 rate forecast from June’s 2.6%. Additionally, a more substantial outlook for rate cuts in 2024 and 2025 would be favorably received. Nevertheless, the Fed is likely to maintain a cautious stance, aiming to prevent markets from prematurely concluding that the rate-hike cycle has ended. Consequently, the Fed is expected to project a mildly hawkish view in this week’s communication.
Featured Image: Freepik @ Mohd Azrin
