US March Interest Rate Hike Speculation 'Rising'... Market Forecast Probability Up to 56%

[Image source=Reuters Yonhap News]

[Asia Economy Reporter Cho Hyun-ui] The U.S. central bank, the Federal Reserve (Fed), which welcomed the new year, is increasingly expected by the market to start raising its benchmark interest rate from spring.

Initially, the prevailing view was that the Fed would finish tapering asset purchases and observe the situation before raising rates around this summer. However, recently, the market's focus has shifted toward a faster timeline for the Fed's rate hikes.

According to the Chicago Mercantile Exchange (CME) Group's FedWatch as of the 2nd, the probability that the Fed will raise rates at the March Federal Open Market Committee (FOMC) meeting was 56.5% as of the 31st of last month (local time). This is more than double the 25.2% probability predicted a month earlier.

FedWatch is a service that estimates the probability of changes in monetary policy based on federal funds (FF) futures price data.

March is also the time when the Fed’s tapering is scheduled to be completed. Previously, the general expectation was that the Fed would finish tapering in March, ending the unconventional monetary policy of quantitative easing, and then pull out the rate hike card around June.

However, according to FedWatch data as of the 31st of last month, the probability of a rate hike at the June FOMC meeting was 100%. While the possibility of a hike was considerable at 67.6% a month ago, the June hike is now considered a foregone conclusion.

This is interpreted as a result of ongoing inflation concerns in the U.S. alongside a clear recovery in the labor market.

After the December FOMC meeting last year, the Personal Consumption Expenditures (PCE) price index for November, released on the 23rd, showed a year-on-year increase of 5.7%, the highest in nearly 39 years since July 1982. Notably, the core PCE price index, which excludes volatile energy and food prices, rose 4.7% year-on-year, marking the highest increase since September 1983.

The core PCE is the inflation indicator the Fed references when deciding interest rate policy. It has maintained a high level in the 3% range since March last year, rising to 4.2% in October and 4.7% in November, showing an increasing trend. This is more than double the Fed’s inflation target of 2.0%.

Although this year is expected to be relatively better than last year, inflation concerns are expected to persist.

The Fed’s annual forecast for core PCE inflation this year is 2.7%, which still exceeds the inflation target. The Washington Post (WP) recently reported that "there is skepticism that even this forecast might be too low." Even if supply chain bottlenecks ease and economic recovery continues, inflation would need to normalize sharply for it to fall to the 2% range.

Goldman Sachs recently forecasted in a report that supply chain disruptions caused by the COVID-19 pandemic could last longer than expected, potentially causing prices to continue rising sharply.

On the other hand, the U.S. labor market appears to have stabilized considerably. The number of new unemployment claims announced on December 30 last year was 198,000.

New unemployment claims showed strong performance from the end of last month, hitting a record low of 188,000 in the first week of December, the lowest since 1969. Compared to the pre-pandemic average of 220,000, the weekly unemployment claims in the U.S. remain at a lower level than before the pandemic.

Considering that the Fed has maintained the stance of not raising the benchmark interest rate until the labor market recovers, the environment is now set for the Fed to boldly proceed with rate hikes.

Moreover, expectations that the risk posed by the COVID-19 variant Omicron is relatively less severe than the Delta variant are also easing the Fed’s concerns about raising rates.

While the Omicron variant is highly transmissible, it is assessed to cause less severe symptoms. Anthony Fauci, director of the U.S. National Institute of Allergy and Infectious Diseases (NIAID), said that if Omicron replaces other existing variants that cause more severe symptoms, it could accelerate the end of the pandemic.

Fed Chair Jerome Powell has long stated that ending the pandemic is the surest way to stabilize the economy.

This content was produced with the assistance of AI translation services.