[Summary] Fed Reaffirms Early Tightening with 73 Mentions of Inflation... Market Relieved

Jerome Powell, Chairman of the U.S. Federal Reserve (Fed) [Image source=Yonhap News]

[Asia Economy New York=Special Correspondent Joselgina] The U.S. central bank, the Federal Reserve (Fed), has reaffirmed its early tightening policy to curb soaring inflation. It plans to raise the benchmark interest rate faster than initially planned and also engage in quantitative tightening (QT) such as balance sheet reduction. However, despite the Fed's 'hawkish' stance, the financial market remained calm. The assessment was that there was "no surprise," which was unexpected by the market.

In the minutes of the January Federal Open Market Committee (FOMC) regular meeting released by the Fed on the 16th (local time), the word 'inflation' appears a total of 73 times. Most participants mentioned, "If inflation does not fall as expected, it would be appropriate to remove policy accommodation at a faster pace than currently anticipated." This is based on the judgment that recent inflation indicators are stronger and more persistent than expected.

Many FOMC members evaluated that "it is reasonable to raise the federal funds rate target range faster than during the 2015 rate hikes." They also advocated rapid normalization of monetary policy, warning that loose monetary policy could pose risks. The Wall Street Journal (WSJ) analyzed that this suggests a series of rate hikes starting from the FOMC on March 15-16, continuing through May and June. This is why there are growing expectations that the Fed might use the 'big step' card of raising rates by 0.5 percentage points at once or raise rates at every remaining FOMC meeting this year, totaling seven times.

The reason FOMC members united in accelerating tightening is due to soaring inflation. Most participants repeatedly pointed out that recent inflation indicators significantly exceed the Fed's long-term target and are stronger and more persistent than expected. Moreover, the Consumer Price Index (CPI) released immediately after the January FOMC showed a 7.5% surge, the highest in 40 years. Despite the Fed's repeated messages to curb inflation, the rate of price increase was even higher than in December last year.

Accordingly, balance sheet reduction is expected to begin earlier than initially anticipated. At the January FOMC, many agreed that "the Fed currently holds too many assets" and that "a substantial reduction is appropriate." The Fed's assets, which were $4.1 trillion in January 2020, surged to nearly $9 trillion due to bond purchases to supply liquidity during the COVID-19 pandemic. Wall Street experts believe that reducing the Fed's assets by $500 billion has a similar effect to raising interest rates by 0.25 percentage points.

The economic media CNBC reported, "Currently, the most likely method is to reduce Fed assets by not reinvesting the proceeds from maturing bonds," adding, "Some members also advocate actively selling mortgage-backed securities (MBS) and holding only U.S. Treasury bonds."

Since the minutes emphasize accelerating the pace of tightening, including rate hikes, they have been widely regarded as 'hawkish.' However, the market's reaction was that it was 'less hawkish' than expected. Charlie Ripley, senior investment strategist at Allianz Investment Management, said, "The Fed did not indicate it would be more aggressive than the existing market assessment." Simona Mocu, chief economist at State Street Global Advisors, also said, "Everyone was prepared for hawkish remarks," and "the market is interpreting it as 'dovish.'"

Amid geopolitical tensions surrounding Ukraine, the New York stock market, which had shown a decline during the day, narrowed its losses and even turned slightly positive after the minutes were released in the afternoon. The S&P 500 index, centered on large-cap stocks, closed up 0.09% compared to the previous session. The Dow Jones Industrial Average and the Nasdaq index fell by only 0.16% and 0.11%, respectively. The U.S. 10-year Treasury yield remained in the 2% range but dropped more than 0.05% after the minutes were released.

The market is now watching for signals that can gauge the extent of the Fed's tightening. It is expected that divisions within the Fed over the pace of tightening will continue until the February inflation data is released. Fed Chair Jerome Powell has not spoken publicly since the January FOMC.

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