"1%P Excessive" US Fed Focus Shifts Back to 'Giant Step'... Market Bets Drop to 29%

[Image source=Reuters Yonhap News]

[Asia Economy New York=Special Correspondent Joselgina] Within the U.S. central bank, the Federal Reserve (Fed), a consensus is forming that raising interest rates by a full 1.0 percentage point at once is excessive despite soaring inflation, and reports indicate that the focus is shifting back to a 'giant step (0.75 percentage points)'.

The Wall Street Journal (WSJ) reported on the 17th (local time) that the Fed is preparing for a giant step ahead of the Federal Open Market Committee (FOMC) regular meeting at the end of this month. Earlier, as the June Consumer Price Index (CPI) increase exceeded 9%, market bets on a 1.0 percentage point hike rose. Within the Fed, there were statements that did not rule out the possibility of a larger-than-expected increase to curb soaring inflation.

However, shortly after, remarks from some Fed officials were released one after another, changing the atmosphere again. Within the Fed, concerns have been raised that a sudden sharp rate hike could accelerate economic slowdown.

Fed Governor Christopher Waller said at an event held in Idaho on the 14th, "A 0.75 percentage point increase is also huge," adding, "Don't say you (the Fed) haven't done your job just because you didn't raise by 1.0 percentage point." If a giant step is taken this month, it would also be significant as it would be the second consecutive month of such a large increase.

Raphael Bostic, President of the Federal Reserve Bank of Atlanta, also mentioned at an event held in Florida on the 15th that rapidly raising interest rates could unnecessarily expose the weak parts of the economy. Esther George, President of the Federal Reserve Bank of Kansas City, also expressed caution about a 1 percentage point increase, stating, "A rapid rate hike poses the risk of tightening faster than the economy and markets can adjust."

In particular, the easing of U.S. inflation forecasts released late last week also contributed to the weight being placed on a giant step rather than a 1 percentage point increase. The University of Michigan's expected inflation indicator, which was expected to determine the direction of the Fed's tightening pace, declined. The one-year expected inflation fell slightly to 5.2% from 5.3% the previous month. Long-term expected inflation dropped more significantly from 3.1% to 2.8%. Thomas Simons, an economist at Jefferies, predicted that the Fed's likelihood of raising rates by 0.75 percentage points this month increased due to the decline in expected inflation at that time.

As consumers' inflation expectations cooled, the outlook for aggressive Fed rate hikes also somewhat subsided. According to the Chicago Mercantile Exchange (CME) FedWatch, on the day the CPI was released last week, the federal funds (FF) futures market reflected over an 80% chance of a 1.0 percentage point rate hike in July, but it has since dropped to around 29.1%.

Former Fed Governor Lawrence Meyer said, "The Fed's burden has been eased," adding, "I don't think they want to go as far as a 1.0 percentage point increase this month."

Jay Bryson, Chief Economist at Wells Fargo, who had previously urged the Fed for aggressive tightening, said after the expected inflation indicator was released on the 15th that the 1 percentage point increase lost its persuasiveness, stating, "It will go up on the table, but reaching a consensus or majority opinion to go for a 1.0 percentage point increase seems somewhat aggressive."

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