The Fed’s rates trajectory is there for all to see

Rate hikes in the US are done. But don’t count on the RBA to make the right decision here next week.

Federal Reserve Board Chair Jerome Powell speaks during a news conference at the Federal Reserve in Washington, DC, on February 1, 2023.

Investors on Wall St got the first of their much-desired and punted-on pivots from the Fed. But they had to wait until Fed head Jerome Powell’s press conference to spell it out to them.

Then, in the last hour after the presser, Wall St finished strongly and as a consequence our market kicked up Thursday towards its all-time high.

The Fed raised its official interest rate by 25 points; importantly, to the range 4.5 to 4.75 per cent.

Initially, investors were disappointed, albeit not dismayed – share prices only drifted not dropped and certainly didn’t plunge. The formulaic language was essentially unchanged from previous tough-talking Fed statements.

But you’d think they might have got a clue from the actual, you know, rate change.

After four successive 75-pointers, the Fed had reduced the increase to 50 points at its December meeting, and now in its first meeting for 2023, has done a 25-pointer.

I know it’s hard, but can you just discern the slightest hint of a direction in that: 75, then 50, then 25?

Now yes, the statement had – as if generated via AI-on-Prozac – ritually repeated the mantra: the Fed anticipated that “ongoing increases in the target range will be appropriate”.

But at the presser Powell conceded that it was “certainly possible that the Fed could keep its benchmark rate below 5 per cent”.

If that proved accurate, with the rate already at 4.5 to 4.75 per cent, it would mean further rate rises of somewhere between zero and 25 points.

He also, though, said that he and his colleagues were “talking about” another couple of rate rise to get to the appropriately restrictive level.

Which in itself begs a rather big question: if they think that, why not go straight there and get it done?

And indeed, therefore, why did they only do 25 points, not a repeat 50, this time?

The answer, I have to tell you, is actually pretty obvious: they don’t, well, think.

The really key point, which you have to conclude the Fed from Powell down don’t seem to have got their collective mind around, is that the Fed official rate is now well above the actual, most current, US inflation rate.

It is now actually quite-to-very restrictive.

Fed rate 4.5 per cent plus; US inflation 2 per cent (December six months annualised).

It is very different in Australia.

Reserve Bank rate 3.1 per cent; Australian inflation 7.4 per cent (December six months annualised).

The other issue – and huge difference between the two countries – is the way the Fed is now undoing its QE money-printing while the US budget is still in deep trillion-dollar level deficit. While we might actually be heading for a surplus.

What matters to share investors is what the Fed now does with its rate going forward.

Powell might not realise it, but he’s now done with rate hikes. His next meeting is after two more monthly US inflation numbers.

What will then be 8 months of near-zero inflation might convince him.

It’s an eerie repeat in reverse of the way that our own RBA head Philip Lowe spent the first few months of 2022 not realising he was about to embark on big rate hikes – heck, any rate hikes at all.

So far as the share market is concerned, it’s then over to what happens to US corporate profits through the March quarter.

If Powell has been too tough, if the economy does slow sharply and corporate profits plunge, we won’t see the ‘other pivot’ that Wall St has been banking on: a soft landing and sustained corporate profitability riding into a hoped-for low inflation lower-rate 2024.

For us and property, it’s now on to next Tuesday’s RBA meeting. We should see 50 points, we’re likely to get 25.

Originally published as The Fed’s rates trajectory is there for all to see