Consumer inflation figures last week fell to their lowest annual rate in two years. A similar encouraging drop was seen in the Producer Price Index, raising bets that the Federal Reserve can achieve a soft landing for the US economy, an outcome that has rarely happened during previous cycles of rising prices. rates.
Experts are split on what progress on inflation means for the July 25-26 meeting of the Fed’s Federal Open Market Committee, which will make its next call on interest rates, as well as the probability of a recession.
Bringing down inflation remains a top priority for the Fed, and the rate hikes it refers to as a “blunt tool” remain its primary tool for cooling prices throughout the economy. The market is fully expecting another rate hike from the Fed in July, after skipping a June rate hike. Current bets are almost unanimous, with 96% of traders saying the Fed will raise rates another 25 basis points, to a range of 5.25% to 5.50%. according to the CME Fed tracker.
For the Fed, ideal inflation is in the 2% target range. Fed Chairman Jerome Powell has been clear since inflation began to fall that he makes a distinction between a disinflation trend that has started and that the Fed can declare its fight against inflation over. Last week’s 3% CPI data is the closest the Fed has come to its long-term target in years, and outside of the Fed, some market pundits have no qualms about declaring victory.
‘Mission accomplished?’
The Fed has “accomplished its mission,” Ed Yardeni, president of Yardeni Research, said on CNBC’s “Halftime Report” Wednesday morning.
“They don’t want to use the word ‘mission accomplished’ because it’s a curse, but I think they’ve largely accomplished their mission, which was to get the federal funds rate up to a restrictive level and keep it there,” Yardini said.
The stock market has been in rally mode, with the Dow Jones Industrial Average capping a five-day winning streak on Friday, and both the Dow and the S&P 500 Index trading above their 200-day averages and about 6% from retaking all-time highs.
“This [data] This is the stuff of a soft landing, this is what the Fed has been looking for, this is what the market wants to see,” said Paul McCulley, a Georgetown professor and former managing director of bond investment giant Pimco, during an interview at CNBC’s “Squawk on the Street” last week.
A soft landing and another rate hike for ‘credibility’
But McCulley, while in the soft-landing camp, said that doesn’t lead to the conclusion that he will cut rates when he meets on July 25-26.
“That doesn’t change what will happen in two weeks,” he said. “The Fed is going to tighten another 25 [basis points]they have to do it to give substance to the idea that they skipped last time, they didn’t stop and they still have one more on the point plot by the end of the year,” he said.
Last week, several experts, including stock strategist Tom Lee, Fundstrat’s managing partner and head of research, said the Fed maintained its credibility by raising rates again.
The latest inflation numbers and the odds against a soft landing make the Fed’s near-term course more difficult, but Lee said the central bank would likely raise rates again “for credibility’s sake.” Lee said on “Closing Bell Overtime.”
That’s an important point in the Fed’s reading, experts said, because when the Fed decided not to raise rates in June, it was seen as a “jump” rather than a pause that could be extended.
The opponents remain, or at least those in the market willing to argue the case that after the latest economic data, the Fed may be done.
“I don’t think a rise in July is absolutely guaranteed,” Liz Young, SoFi’s head of investment strategy, said on CNBC’s “Halftime Report” last week. “I think there’s a decent chance they’ll get done or they’ll extend the hiatus further because there’s been good progress, and it’s okay to be positive about that progress.”
Former Federal Reserve Vice Chairman Roger Ferguson, who has been consistent in his view that inflation will remain stagnant and the Fed will not move quickly to declare victory even if it means a recession for the economy, stressed after the latest inflation data that it is still too early to make a winning call. But he is more encouraged by the possibility of the economy avoiding recession, something that, according to recent economic history, would not be possible.
wait till september
“I think there’s an increasing chance that that soft landing will happen, which is a very positive thing,” Ferguson said on CNBC’s “Squawk Box” last week. “Fortunately, we still see momentum in many sectors. However, I think it’s too early to call it a done deal, because as the Fed itself has said, a lot of the work they’ve done hasn’t hit the market yet.”
September, Ferguson says, is when markets should take a closer look at the effects of past hikes and see how they have affected the economy. Today, there is still a risk that the inflation cooldown is less directly related to the Fed hikes than some conclude.
The message from top corporate executives in the consumer sector has been to expect some level of high inflation for some time. PepsiCo’s chief financial officer, Hugh Johnston, said last week after its latest earnings that he doesn’t expect the basket of commodities he tracks to return to a historical average. He’s getting less of a margin from the higher prices being passed on to consumers today; More margin, he said, comes from operating efficiencies, including automation, but he expects those prices to stay high tied to a high core inflation rate, even if it’s declining.
Why a recession is still in the picture
CNBC’s survey of CFOs indicates that most still expect a recession, while they have become more positive about the outlook for stocks and a less hawkish Federal Reserve. Several CFOs said in a recent private call between members of the CNBC CFO Council that they sent the message directly to their regional Fed chairmen that it’s time to stop raising rates because the economy is slowing in ways they can see. , from the trade. volumes in the supply chain to manufacturing activity, consumer spending and credit deterioration, if not delinquencies, but that may only become obvious to the Fed too late.
This CFO view, which can be summed up in economist Milton Friedman’s description of “long and variable lags” in monetary policy, was echoed by Pimco managing director Tiffany Wilding, who believes a recession is likely.
“We believe that growth will slow down in the second part of this year. There are hurdles to consumption due to the restart of student loan payments,” he said last week on CNBC’s “Squawk on the Street.”
“Below the surface, credit growth is slowing and slowing down quite dramatically. And the economy ultimately needs credit to function, so that’s going to be a big drag at a time when monetary policy is very tight.” Wilding said.
As the economy weakens, unemployment will rise. “And typically, historically, that rise in unemployment has been characterized by negative quarters of real GDP growth,” he said. “In other words, we’ve never seen unemployment rise in history without those negative quarters, so we think you’ll probably see a recession,” she added.
Many CFOs remain of the view that, even in the current tight labor market conditions and challenging job growth given the broader economic risks, eventually, when unemployment rises, it will rise more than the Federal Reserve is targeting.
But even in his worst-case scenario, Wilding expects a “moderate” recession. And he expects the July rate hike to be the Fed’s last in this cycle.
San Francisco Fed President Mary Daly expressed her commitment to further reduce inflation on “Squawk on the Street” last week.
“It’s really too early to say we can declare victory over inflation. This month of data is very positive, I hope it’s part of a downward trend in inflation, but I’m in a wait-and-see mode because I remain determined to reduce the inflation at 2%”.
