Interest rate increases by the Federal Reserve are anticipated to slow in 2023.

By Justin Jones On Jan 31, 2023

Interest rate increases by the Federal Reserve are anticipated to slow in 2023. On Tuesday, the Federal Reserve will begin its first policy meeting of the year, with the policy statement for the meeting expected on Wednesday to reveal that interest rates will rise at a slower pace for the second consecutive meeting.

Financial markets expect the Federal Reserve to raise its benchmark interest rate by 25 basis points on Wednesday, bringing the policy rate to a range of 4.5–4.75.

There has been widespread speculation that the Federal Reserve will announce a 0.25 percentage point rate hike on Wednesday, marking a further reduction from the 0.5 percentage point increase reported in December.

Until its announcement in December, the Fed had increased interest rates after each of its previous four meetings by 0.75%.

At 2:00 p.m. ET on Wednesday, the Fed will announce its most recent policy decision, and Fed Chair Jerome Powell will hold a news conference at 2:30 p.m. ET. On Wednesday, the Fed will not release any new economic projections.

Chris Waller, a Fed governor, said earlier this month, “There appears to be minimal volatility ahead, so I now prefer a 25-basis point hike at the FOMC’s next meeting at the end of this month.” According to Patrick Harker, president of the Federal Reserve Bank of Philadelphia, rises of 25 basis points will be appropriate moving ahead.

Earlier this month, Susan Collins of the Boston Federal Reserve and Lorie Logan of the Dallas Federal Reserve said they favor slower rate hikes. Still, neither has specifically named 25 basis points as the magnitude of the required rate hike. This week marks Logan’s debut as a voting member of the Federal Open Market Committee, the Fed committee responsible for deciding monetary policy.

Inflation has shown signs of slowing, leading to expectations of a slower pace of rate hikes, yet; price increases continue to be substantially above the Fed’s 2% target.

The favored inflation gauge of the Fed, PCE ex-food and energy, rose 4.4% from a year ago in December, down from 4.7% in November and the weakest annual rate of increase since October 2021.

The CPI, excluding food and energy, increased by 0.3% in December, following a 0.2% increase in November. The annual growth in core CPI slowed to 5.7% in December from November’s 6%.

For Wilmington Trust’s chief economist, “encouraging inflation data that has come in” must be recognized by Fed Chair Powell. This is not an isolated incident. Three months of positive results are in.

Despite positive inflation numbers, Tilley expects the Fed to employ hawkish rhetoric on Wednesday because policymakers don’t want financial conditions to loosen and are still monitoring wages. He replied, “Powell wants to keep the course and do no harm.”

Since reaching their peak in October, financial circumstances have dramatically improved due to rising stock prices and lowering interest rates.

For his part, Wilmington Trust’s bond portfolio manager Wilmer Stith doesn’t think the Federal Reserve would bring up pausing rates this week because of the improvement in financial circumstances. Stith predicted that the Federal Reserve would maintain its current stance through the end of the year, indicating that rates would remain unchanged.

Consumer spending slowed in the fourth quarter, and industry investment in machinery and computers was reduced. Recent weeks have seen a slowdown in manufacturing, a decline in retail sales, and a widening of layoffs beyond the software industry.

The market will also seek hints about how to further the Fed’s benchmark rate will increase. When the Federal Reserve could temporarily stop raising interest rates.

According to Paul Ashworth, chief U.S. economist at Capital Economics, “there could be one last hawkish sting in the tail.” We anticipate that the statement released on Wednesday will reiterate the need for “ongoing hikes” (emphasis added) in interest rates and may include forward guidance promising to keep rates high for some time to counteract the recent loosening of financial conditions.

In December, most Fed officials predicted that the policy rate would eventually peak between 5% and 5.25%, which would need two further rises of 0.25%.

Officials have said they wish to avoid making the error of not hiking rates enough, which would lead to a revival of inflation pressures in the economy.

Dallas Fed President Lorie Logan recently stated in a speech that the central bank should be prepared to raise interest rates again if necessary, even though there is now insufficient evidence to halt rate hikes.

Tilley anticipates a rate drop in the fourth quarter alongside the rest of the market because he believes inflation and the economy are slowing quicker than the Fed thinks.

They still have the brakes on, even with the rate cuts. Tilley remarked that this would be a temporary lull in their efforts. Keeping the Fed Funds Rate at 5% while inflation is falling would be a passive tightening on an inflation-adjusted basis by the Federal Reserve.

Nonetheless, Fed insiders believe the central bank needs to guard against inflation cooling off, given that core inflation fell for three consecutive months in 2021 before rebounding sharply.

We do not want to be fooled,” Waller stated. However, if we’re incorrect and inflation falls faster than expected, rate cuts will be more manageable.