Surge in U.S. spending could force Fed off ‘pause’ in rate hikes

Click to play video: 'IMF says U.S. inflation remains ‘stubbornly high,’ forecasts peak of 5.4% in 2023'
IMF says U.S. inflation remains ‘stubbornly high,’ forecasts peak of 5.4% in 2023
WATCH: International Monetary Fund (IMF) chief Kristalina Georgieva said on Friday that U.S. interest rates will likely need to remain higher for longer to tame inflation, forecasting that the federal funds rate will peak at 5.4 per cent in 2023 – May 26, 2023

Federal Reserve policymakers got a dose of unexpectedly strong economic data on Friday that bolstered the case for further monetary policy tightening to bring down persistently high inflation.

Consumer spending surged 0.8 per cent last month from March, the Commerce Department reported. That’s good news as far as showing the economy’s not on the precipice of a recession, but bad news for policymakers looking for a slowdown that could ease upward pressure on prices.

Inflation by the Fed’s preferred gauge actually accelerated to 4.4 per cent from a year ago, the report showed, with core prices – a key measure of underlying pressures – gaining 4.7 per cent, up from the 4.6 per cent pace in March.

The Fed targets two per cent inflation.

Coupled with what appeared to be some progress in Washington on a deal to raise the debt limit and avoid a catastrophic U.S. default, the data throws doubt on whether the Fed will indeed “pause” its rate-hike campaign, as Fed Chair Jerome Powell signaled it might earlier this month.

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U.S. debt ceiling crisis: White House says negotiations continue ‘in good faith’

Indeed traders are now betting the Fed will deliver an 11th straight interest rate hike in June, lifting the policy rate to a 5.25 per cent-5.5 per cent range.

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Betting earlier in the day – and indeed for most of the time since the Fed’s last rate hike on May 3 – had reflected an expectation of at least a break in, if not an end to, the Fed’s policy tightening.

“The combination of inflation moving upward and consumer spending remaining so strong will increase the odds of the Federal Reserve raising rates another time in mid-June,” wrote Nationwide Chief Economist Kathy Bostjancic. Orders for durable goods also rose, supporting a further pickup ahead for the economy.

A rate hike next month is not a done deal as yet: still to come before the Fed’s June 13-14 meeting is a key read on the labour market due next Friday and fresh data on inflation expected on June 13. Fed policymakers also say they are watching credit conditions closely.

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But expectations are growing that, even if the Fed skips a June rate hike, it will pull the trigger in July. Odds in futures markets are running three to one in favor of that outcome.

Fed Governor Christopher Waller – one of the Fed’s more hawkish voices – teed up that notion earlier this week. While key data in coming weeks as well as uncertainty over credit conditions could support temporarily leaving rates on hold, he said, the lack of progress on inflation points to the need for further tightening.

Click to play video: 'U.S. Federal Reserve raises interest rates by 0.25 percentage points'
U.S. Federal Reserve raises interest rates by 0.25 percentage points

Other Fed policymakers have echoed that hawkish call. “Inflation so far doesn’t show much signs of cooling, which all being said suggests maybe we have more work to do with monetary policy,” Minneapolis Fed President Neel Kashkari told Reuters on Monday.

Households do project inflation to ebb in the next year, to 4.2 per cent, a University of Michigan survey showed Friday. The Fed believes expectations about future price pressures exert a strong influence on current readings.

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Reporting by Ann Saphir and Michael S. Derby with reporting by Shristi Achar; Editing by Jason Neely, Chizu Nomiyama and Andrea Ricci

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