Original author: PSE Trading Trader@MacroFang
Federal Reserve Outlook: Predicting a soft landing
The Federal Reserve is expected to be heading for a soft landing, according to meeting minutes released today. While the minutes showed optimism and determination to bring inflation back to target, the Fed is likely to be cautious about a drastic policy shift due to slowing inflation data and growing downside risks to economic growth. This stance is unlikely to weaken financial conditions.
Currently, the Federal Reserves policy is geared toward combating the risks of inflation and financial stability, and is not expected to change much.
Even as the focus on economic growth intensifies, it ensures that equal attention is given to both aspects of the federal dual mandate. With softening inflation data making that balance easier, stronger inflation in the future could pose challenges that could upset that balance as it becomes more difficult for the federal government to cut interest rates amid heightened risks to economic growth. It becomes harder to sell.
US Stock Market: SP 500 expected to hit new highs in 2024
Strategists at Bank of America predict the SP 500 will reach new highs by 2024 as U.S. companies effectively respond to rising interest rates and macroeconomic turmoil. The rise was attributed to previous Fed actions, not future cuts. The SP 500 has gained 18% this year, driven by a strong economy and an end to the profit recession. Strategist Savita Subramanian suggested that earnings could increase even as economic growth slows. With most investors remaining bearish, other analysts see further upside potential and expect continued gains.
Fed maintains stance amid economic concerns
The U.S. Federal Reserve is maintaining its stance on interest rates for now despite rising risks to growth and inflation. Recent data shows that jobless claims and the unemployment rate are trending upward, suggesting that higher interest rates are having the expected dampening effect on economic activity. However, a recession is expected next year and inflation is expected to exceed its target. Despite these circumstances, the latest official stance does not indicate any intention to further raise or cut interest rates until there is a more significant slowdown in economic activity. The gradual decoupling of inflation expectations is a concern for Fed officials.
Signs of economic slowdown and accelerating inflation emerge
Emerging signs that economic activity may be slowing contrast with current solid activity data, which forecast real GDP growth of 2.2% in the fourth quarter. Federal Reserve officials cited this combination of strong activity and softer inflation as reason for optimism about a soft landing for the economy. However, these conditions may occur simultaneously rather than portend a stable macroeconomic outcome. A sharp increase in home prices has been observed, albeit at a slower pace over the past two months, likely due to higher mortgage rates dampening demand.
Initial jobless claims fell more than expected, to 209k from 233k on November 18. Overall, the four-week moving average of initial unemployment insurance claims remains low, with no sign of a significant acceleration in layoffs. The number of people receiving continuous unemployment insurance fell for the first time in about two months, falling to 1840k from 1862k on November 11. Half of the decrease in seasonally adjusted continuing claims is due to an unusual drop in claims in Puerto Rico, which should rebound in the coming weeks.
Commonwealth Communications: No more rate hikes
In the near future, data and Fed communications are expected to confirm that there will be no further rate hikes this cycle. The forecast for softer core PCE growth in October is consistent with this view. New home sales are also expected to fall due to higher mortgage rates. Instead, the existing housing market is likely to continue to put pressure on home prices due to an imbalance between supply and demand. Manufacturing PMIs are expected to rebound, in part due to the resolution of the auto workers strike in November. Federal Reserve Chairman Jerome Powell is not expected to provide much new information, but is likely to emphasize the central banks caution and readiness to raise policy rates if necessary.
FOMC Minutes: Rising U.S. Treasury yields = dovish stance
The minutes of the Federal Open Market Committee (FOMC) meeting held by the Federal Reserve on November 1, 2023 revealed that the Federal Open Market Committee expressed concerns about the rise in U.S. Treasury yields and its possible impact on growth and financial stability. Policymakers pledged to keep financial conditions sufficiently restrictive but their approach was cautious. This means they aim to avoid a rapid tightening of financial conditions but will not resist easing. Although inflation is expected to continue to exceed target in the coming year, no further rate increases are forecast for this cycle. Before the meeting, Fed officials had said that a rise in the yield on the 10-year Treasury note, which is approaching 5%, would lead to reconsideration of a planned 25-basis-point interest rate increase later this year.
The minutes further indicated that rising Treasury yields were seen as a threat to financial stability, particularly the potential losses that banks would incur on their fixed-income portfolios. Reaction to the rise in long-term yields has been divided among Fed officials. They acknowledged the recent slowdown in inflation but needed more data to confirm whether inflation would return to the 2% target. While officials agree that the labor market is becoming more balanced, they express uncertainty about whether labor supply will be a sustained trend. Some also noted that wage growth exceeded levels consistent with 2% price inflation. Finally, the FOMC agreed that policy rates should be moved cautiously and that the likelihood of raising policy rates is low.