When
the Federal Reserve meets next week, it is widely expected to leave
interest rates alone — after 10 straight meetings in which it has jacked
up its key rate to fight inflation.
But
what might otherwise be seen as a “pause” will likely be characterized
instead as a “skip.” The difference? A “pause” might suggest that the
Fed may not raise its benchmark rate again. A “skip” implies that it
probably will — just not now.
The
purpose of suspending its rate hikes is to give the Fed’s policymakers
time to look around and assess how much higher borrowing rates are
slowing inflation. Calling next week’s decision a “skip” is also a way
for Chair Jerome Powell to forge a consensus among an increasingly
fractious committee of Fed policymakers.
One group of Fed officials would like to pause their hikes and decide, over time, whether to increase rates any further.
But
a second group worries that inflation is still too high and would
prefer that the Fed continue hiking at least once or twice more —
beginning next week.
A “skip” serves as a compromise.
When
the Fed chair speaks at a news conference next Wednesday, he will
likely make clear that the central bank’s key rate — which has elevated
the costs of mortgages, auto loans, credit card and business borrowing —
may eventually go even higher.
The
clearest signal that a skip, rather than a pause, is in the works will
likely be seen in the quarterly economic projections that policymakers
will issue Wednesday. Those may show that officials expect their key
rate to rise a quarter-point by year’s end — to about 5.4%, above their
estimate in March.
“That’s
probably the only way to keep the committee cohesive in an environment
where they have seem to have somewhat broadening disagreements,” said
Matthew Luzzetti, chief U.S. economist at Deutsche Bank Securities.
For
more than a year, the Fed’s 18-member rate-setting committee has
presented a united front: The officials were nearly unanimous in their
support for rapid rate hikes to throttle a burst of inflation that had
leapt to the highest level in four decades. (The committee has 19
members at full strength; one spot is now vacant.)
The
Fed raised its rate by a substantial 5 percentage points in 14 months —
the fastest pace of increases in 40 years, to a 16-year high. The
policymakers hope that the resulting tighter credit will slow spending,
cool the economy and curb inflation.
The
rate increases have led to sharply higher mortgage rates, which have
contributed to a steep fall in home sales. The average rate on a 30-year
mortgage has nearly doubled, from 3.8% in March 2022 to 6.8% now.
Compared with a year ago, sales of existing homes have tumbled by nearly
a quarter.
Credit
card rates have also climbed higher — topping 20% on average nationwide,
up from 16.3% before the Fed’s rate hikes began. Many consumers have
had to bear the weight of that costlier cost credit card debt.
Auto
loans have grown more expensive, too. The average rate on a five-year
loan has jumped from 4.5% early last year to 7.5% in the first three
months of this year.
Several
Fed officials contend that rates are already high enough to slow hiring
and growth and that if they go much higher, they could cause a deep
recession. This concern has left policymakers deeply divided about their
next steps.
The camp
that’s leaning against another rate increase is considered “dovish,” in
Fed parlance. The doves, who include Powell and other top officials,
think it takes a year or more for rate hikes to deliver their full
effect and that the Fed should stop hiking, at least temporarily, to
evaluate the impact so far.
The
more dovish officials also worry that this spring’s banking turmoil,
with three large banks collapsing in two months, might have compounded
the brake on economic growth by causing other banks to restrict lending.
Raising rates again too soon, they feel, could excessively weaken the
economy.
The doves
also think that pausing rate hikes to ensure that the Fed doesn’t go too
far might help achieve the tantalizing prospect of a “soft landing.”
This is the hoped-for scenario in which the Fed would manage to tame
inflation without causing a recession, or at least not a very deep one.
“Maybe
the majority of the tightening impact of what the Fed already did is
still to come,” Austan Goolsbee, president of the Federal Reserve Bank
of Chicago, said last month. “And then you add the bank stresses on top
of it. … We have got to take that into account.”
Another
group expresses a more “hawkish” view, meaning it favors further rate
increases. Although food and gas prices have come down, overall
inflation remains chronically high, hiring remains hot and consumers are
still stepping up their spending — trends that could keep prices high.
And
some of the reasons Fed officials had previously cited in support of a
pause no longer pose a threat. Congress, for example, approved a
suspension of the federal debt ceiling, thereby avoiding a U.S. default
that could have caused a global economic meltdown.
“I
don’t really see a compelling reason to pause — meaning wait until you
get more evidence to decide what to do,” Loretta Mester, president of
the Cleveland Fed, said last month in an interview with the Financial
Times. “I would see more of a compelling case for bringing (rates) up.”
For now, the doves appear to have the upper hand. Powell signaled his support for a pause in carefully prepared remarks May 19.
“Given
how far we’ve come, we can afford to look at the data and the evolving
outlook and make careful assessments,” Powell said, referring to the
Fed’s streak of rate hikes.
More
recently, Philip Jefferson, whom President Joe Biden has nominated to
serve as vice chair of the Fed, also expressed support for a pause in
rate hikes while making clear that it was likely to be a skip.
“A
decision to hold our rate constant at a coming meeting should not be
interpreted to mean that we have reached the peak rate for this cycle,”
Jefferson said in a speech. “Skipping a rate hike at a coming meeting
would allow (the Fed’s policymakers) to see more data before making
decisions” about interest rates.
In
March, seven Fed officials indicated that they preferred to raise the
Fed’s key rate to about 5.4% or higher by the end of 2023. If three more
policymakers were to raise their projections next week to that level,
that would be enough to boost the median estimate a quarter-point above
where it is now.
If
only two officials raise their forecasts for rate hikes, it would leave
the committee evenly split over whether to hike again later this year.
This could create a more muddled message about what comes next.
Still,
any skip in rate hikes might not last long. There won’t be much major
economic data released between next week’s Fed meeting and the next one
in July — just one more jobs report and one more inflation report.
As
a result, inflation will likely still remain high, according to the
most recent data, when the Fed meets in July, with hiring still strong.
The hawks may well prevail at that session and win another rate hike.
A
report on inflation in May will be issued on Tuesday, the first day of
the Fed’s two-day meeting. But most economists think the officials will
largely have their rate decision in mind by then. So the inflation
report for May will likely have more influence on what happens at the
following Fed meeting in July.
By Associated Press
Credit/Shutterstock
Jonathan Smoke
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Source: Shutterstock.
Dawit Kebede
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Tyler Barron
