Federal Reserve to slow interest rate hikes, citing inflation risks as key factor

February 23, 2023 (MLN): Nearly all Federal Reserve policymakers rallied behind a decision to further slow the pace of interest rate hikes at the U.S. central bank's last policy meeting but also indicated that curbing unacceptably high inflation would be the "key factor" in how much further rates need to rise, as Reuters reported. 

In language that suggested a compromise between officials worried about a slowing economy and those convinced inflation would prove persistent, minutes from the Jan. 31-Feb. 1 meeting said policymakers agreed rates would need to move higher, but that the shift to smaller-sized hikes would let them calibrate more closely with incoming data, it added. 

"Almost all participants agreed that it was appropriate to raise the target range of the federal funds rate 25 basis points," with many of those saying that would let the Fed better "determine the extent" of future increases, said the minutes, which were released on Wednesday.

At the same time, "participants generally noted that upside risks to the inflation outlook remained a key factor shaping the policy outlook," and that interest rates would need to move higher and stay elevated "until inflation is clearly on a path to 2%."

Only "a few" participants outright favored a larger half-percentage-point increase at the meeting or said they "could have supported" it.

The Fed delivered a string of 75-basis-point and 50-basis-point rate hikes in 2022 in its battle to curb inflation that had climbed to 40-year highs. The central bank's policy rate is currently in the 4.50%-4.75% range.

The minutes' reference to inflation risks as a "key" to policy means recent data - showing less progress than hoped for - could mean a higher projected stopping point for the federal funds rate when policymakers issue new projections at the end of the March 21-22 meeting, said Omair Sharif, president of Inflation Insights, it further noted.

Recent inflation data and upward revisions to earlier figures mean the "upside risks to inflation" cited by policymakers in the minutes "are clearly much higher today than they were when the (Federal Open Market) Committee last met," Sharif said, referring to the central bank's policy-setting committee. "The March dots will move higher," with the median projected year-end policy rate perhaps pushed up to as much as 5.6%, compared with the median 5.1% "dot plot" projection in December.

Bond yields rose following the release of the minutes and the U.S. dollar also advanced against a basket of currencies. A modest rally in U.S. stocks fizzled out.

The yield on the 2-year Treasury note, the government bond maturity most sensitive to Fed policy expectations, rose about 4 basis points from its level before the release to about 4.69%. The S&P 500 index (.SPX), up about 0.25% before the minutes came out, closed lower, it said. 

Traders of futures tied to the Fed policy rate added to bets on at least three more quarter-percentage-point rate hikes at upcoming meetings, with contract pricing pointing to a top federal funds rate range of 5.25%-5.50%.

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