Why markets still think the Fed will cut interest rates in June despite US inflation overshoot
Markets are still betting that the US Federal Reserve will start cutting interest rates in June even after inflation came in ahead of expectations in February.
Prices rose 0.4 per cent month-on-month in February, accelerating from a 0.3 per cent increase in January. This means the headline rate of inflation picked up to 3.2 per cent.
Looking longer term, there has been little progress on inflation since last summer, when inflation dropped to three per cent. Inflation has remained roughly stable since then.
In other words, it looks like the so-called ‘last mile‘ in the fight against inflation, which a number of economists have been warning about, might be turning out to be the most difficult.
Daniele Antonucci, chief investment officer at Quintet Private Bank, said: “The upside inflation surprise is a reminder that the last mile to the two per cent Fed target could be bumpy.”
Concerns about stubborn inflation, as well as the Fed’s own hawkish messaging, have already pushed back bets on when rate cuts will begin.
At the end of last year, there was an over 90 per cent probability that rates would be cut in March. Now there is a 57 per cent chance that the Fed will cut in June, according to CME’s Fedwatch tool.
Jerome Powell, chair of the Fed, said he wanted to be “more confident” before he could start cutting interest rates.
An upside surprise may not fill him with confidence, but most economists did not think that today’s data would pose a risk to a June cut.
“Today’s inflation print is hawkish on the surface, but the details are slightly more reassuring,” Seema Shah, Chief Global Strategist, Principal Asset Management said.
“While core services inflation was again hot, the all-important core services ex housing weakened from last month,” Shah continued.
Looking within housing costs, which have been a key obstacle to lower inflation, there has been a spike in rent prices.
Rent rose 0.5 per cent, the biggest increase in four months, but Ian Sheperdson, chair and chief economist at Pantheon Macroeconomics, dismissed the spike as “an anomaly”.
He pointed out that leading indicators point to a sharp downturn in rents over the coming months.
“Assuming normal service resumes, then rents will be present no sustained inflation threat until the fall of 2025 at the earliest,” he said.
More broadly inflationary pressures look like they are dissipating following labour market data released last week.
The figures showed that the unemployment rate increased by 0.2 percentage points to 3.9 per cent while wage inflation came in at 4.3 per cent, below market expectations and January’s figure of 4.4 per cent.