A hawkish pause…

The Fed has announced an expected hike in the Fed Funds Rate of 0.25%, the Fed Fund rate target range is now at 5.25%-5.5%. In its previous policy announcement, wherein the Fed had maintained a pause, the Fed had indicated at two more rate hikes for the remainder of the year. Even though inflation has gradually eased from multi-year highs recorded last year, it is still above the Fed’s target of 2% and the robust economic activity, reflected by labour markets and the employment data, were the key factors that led to market participants anticipating a rate hike in this policy.

There was a very marginal change in the policy statement as compared to the previous one. The pace of economic growth has been termed as “moderate” as compared to “modest” in the last policy. It may be an indication that the Fed is not expecting a recession in the current calendar year or even if it comes to pass it might be a “mild” one. On the Fed rate front, it indicated that the decision would be data dependant and “will continue to assess additional information and its implications for monetary policy.” From a policy signalling point of view, this statement leaves both the scenarios open – rate hike or even a pause.

The markets perspectives centre around an end to the rate hike cycle or at least we have reached the fag end of the rate hike cycle. The key factors to reckon here are, (i) the impact of rates effected till date and (ii) ensuring a soft landing of the economy. As has been witnessed over various rate cycles, specifically post GFC, rate cuts may not be enough to stimulate the economy back onto a growth trajectory.

The Fed is on a “hawkish pause”. Initially, the inflationary pressures were mis-construed to be “transient” and the policy was behind the curve; the Fed policy was left with an ardent task of catching-up with the rising and sticky inflationary pressures. Therefore, the Fed is testing the “durability” of the moderation in the price level and may be even ensuring that its target of 2% inflation is achieved. At the current juncture there are two variables that may account for elevated prices in future – food grains and fuel. In sum, we may see the Fed on a hawkish hold till the year-end, and the first cut might be in the next year; India too may be in a cautious hold for more time.

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