Conflicting US Interest Rate Signals: "No Need to Raise" vs "Must Tighten Further"

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Conflicting forecasts are emerging over whether the U.S. Federal Open Market Committee (FOMC) will raise interest rates at its meeting on the 3rd of next month. Analysts note that uncertainty over the interest rate path is increasing as Janet Yellen, the current U.S. Treasury Secretary and economic commander, and current Fed officials have expressed opposing views.

In an interview with U.S. broadcaster CNN released on the 16th (local time), Treasury Secretary Yellen stated, "Recent bank failures have heightened banks' caution, which may lead them to tighten lending further," adding, "Additional rate hikes by the Fed may become unnecessary."

She said, "We observed that lending standards in the banking system had tightened before this incident, and they could tighten further going forward," explaining, "This could substitute for additional rate hikes by the Fed." Since banks' lending restrictions reduce market liquidity, they can have an effect similar to the Fed's rate hikes.

However, Secretary Yellen noted that she has not seen dramatic changes sufficient to alter the economic outlook. She predicted, "As inflation eases, moderate growth and a strong labor market will continue."

Yellen's diagnosis has attracted attention as it came amid growing concerns over credit tightening and economic slowdown following the SVB crisis. Yellen currently serves as the U.S. economic commander and was also a predecessor to Fed Chair Jerome Powell, lending significant weight to her remarks. Some analysts interpret her comments as a subtle pressure on the Fed, an independent institution that sets monetary policy, to halt further rate hikes.

On the other hand, some Fed officials and Wall Street heavyweights have expressed contrasting views, insisting that strong monetary tightening must continue. Contrary to Yellen's remarks, there is also an internal Fed assessment that lending has not significantly decreased following the SVB bankruptcy.

Christopher Waller, a prominent 'dove' (favoring monetary easing) within the Fed, emphasized on the 14th, "Inflation is at 5%, far exceeding the Fed's 2% target, and the labor market remains strong and quite tight," adding, "Monetary policy needs to be more restrictive." He further explained, "The turmoil caused by the failure of several mid-sized banks has not significantly tightened lending," and "How much more we need to raise rates depends on inflation, the real economy, and the degree of tightening in lending conditions."

Wall Street CEOs also warned that interest rates could remain higher for longer, dampening expectations for rate cuts within the year. Jamie Dimon, Chairman of JP Morgan, cautioned, "Investors and companies unprepared for the risks of monetary tightening will pay a price," and urged, "We must prepare for the possibility of rates rising further and staying elevated for a longer period."

Larry Fink, CEO of BlackRock, also viewed additional Fed rate hikes as inevitable due to high inflation. Fink said, "Inflation is stickier and will persist longer," adding, "The Fed may need to raise rates by 0.50 to 0.75 basis points (1bp = 0.01 percentage points). This will cause significant stress in the market."

These views align with a recent Wall Street Journal (WSJ) survey. According to the expert survey conducted by WSJ this month, the annual U.S. inflation rate for this year is expected to be 3.53%, higher than the 3.1% forecast in the January survey. The percentage of experts expecting rate cuts within the year dropped from 50% in January to 39% in this survey.

Meanwhile, according to the Chicago Mercantile Exchange (CME) FedWatch on the same day, the probability that the Fed will raise the benchmark interest rate by 0.5 percentage points at next month's FOMC meeting was calculated at 80.8%, up from 71.2% a week earlier.

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