The US Federal Reserve and Bank of England will be in the investor spotlight this coming Wednesday and Thursday as they reveal interest rate decisions and provide commentary about expected further monetary tightening, which has been the overwhelming influence on stock market behaviour this year.
In September Fed chair Jerome Powell indicated that the Federal Open Markets Committee was “strongly committed” to driving inflation lower with more rate rises following three 75-basis-point hikes in June, July and September and that there was no painless way to drive inflation lower.
It was expected at the time that there could be another 100bps by the end of this year at the bare minimum.
But this month there has been increasing market speculation that the Fed will hike by 75bps again but also signal a potential move to smaller rate raises in coming months.
A report in The Wall Street Journal this month suggested that some Fed officials are concerned about overtightening, with a big debate to be had at this week’s meeting.
“There are growing signs of economic slowdown and liquidity concerns in bond markets,” said Deutsche Bank, while smaller-than-expected hikes by the Bank of Canada and dovish musings from the ECB have “fuelled another attempt to price in a pivot”.
“So whether the Fed pours cold water over these expectations will be key.”
Most economists expect the central bank to hike by 75 basis points next week and in December.
Deutsche predicts rates will reach a terminal rate of 4.9% in February, with rate cuts late in 2023, following a moderate recession.
But Michael Hewson at CMC Markets noted that while core inflation is forecast to decline to 4.5% this year, before falling to 2.1% by 2025, there have been “a succession of Fed speaks talking up the prospects of even more aggressive tightening, with the prospect that we might see another 150bps by year end which would put the Fed Funds rate at 4.75% by year end”.
Unease at the pace of the current hiking cycle has only been publicly voiced by Fed vice chair Lael Brainard, though San Francisco Fed President Mary Daly said that after November could be the time for talking about stepping down the pace of hikes.
Fuelling the fire of market speculation before the FOMC decision will be the Chicago PMI survey on Monday, ISM manufacturing data and prices numbers on Tuesday and MBA mortgage applications data earlier on Wednesday.
Bank of England decision
A day later, policymakers in London will have their turn after a couple of weeks out of the news after the Bank of England was forced to intervene in bond markets after the calamitous Liz Truss-Kwasi Kwarteng fiscal fiasco.
The weakness of the pound in recent weeks, along with the political turmoil has have had a significant upward impact on UK inflation, as well as on the housing market, adding to effects from the rate rises so far this year by the Bank’s monetary policy committee.
There is a bigger question mark over the size of Threadneedle Street’s potential hike, whether it will be 50bps or 75bps.
With new Prime Minister Rishi Sunak saying the UK “faces a profound economic crisis” in his first speech and new chancellor Jeremy Hunt expected to announce some major tightening measures in a fiscal statement on 17 November, there is lots for the BoE’s monetary policy committee to mull over.
“The central bank’s staff liaises with Treasury officials and will already have an outline of the new fiscal policy settings as input for next week’s rate decision,” said Rabobank, predicting a 75bps hike on Thursday and an eventual 4.75% rate peak.
“Even as markets have now calmed, we will learn on Thursday that monetary and fiscal policy are going to be significantly tighter than what anyone had imagined in mid-September.”
CMC’s Hewson said the tightening of fiscal policy means “the scope for the Bank of England to be more aggressive is now said to be more limited, due to concerns about the impact on demand.
“It seems a little bit late for that at this point in time, given that the actions of the government in raising taxes is likely to mean any recession is now likely to be much more prolonged, which in turn could mean that the pound stays under pressure for longer.”
He said it seems “more likely than not” that there will be a 50bps hike.
But Ruth Gregory at Capital Economics feels it is a closer call as to whether the MPC will deliver a 75bps or an 100bps hike, due to the strengthening in domestic inflationary pressures and tightness in the labour market.
“On balance, we think that the MPC will go for 100bps, taking Bank Rate from 2.25% to 3.25%,” she said.
Going the other way, ING economist James Smith said, while “unthinkable only a few weeks ago”, he thinks a 50bps rate hike is narrowly more likely.
“In recent speeches, policymakers have been signalling that markets are overestimating the amount of tightening left to come. Meanwhile, following the various policy U-turns of recent weeks, the expected boost from fiscal policy now looks similar to what was expected before September’s meeting, when it opted against a 75bp move. With the latest data not providing a clear justification for a faster hike, and sterling now stronger than it was before September’s meeting, we think there is a good chance now that the Bank will underdeliver on market/economist expectations.”
Alongside the decision, the MPC will also to deliver its latest economic forecasts for inflation and GDP.