InvestorQ : What did you read from the Fed statement late on Wednesday night?
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What did you read from the Fed statement late on Wednesday night?

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4 weeks ago
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The Fed announced the policy on Wednesday and there was not much of a surprise element at all. In fact, the 75 bps rate hike by the Federal Reserve was almost taken from granted well ahead of the meeting. However, if you scratch the surface, there were 2 contradictory signals from the Fed. On the one hand, Fed appeared absolutely **** bent in its pursuit of bulldozing down the inflation to lower levels by hiking rates. At the same time, the Fed also indicated that December onwards may see muted rate hikes and that is slightly in contrast to the very hawkish. It may now be 50 bps in December instead of 75 bps.

With the latest round of 75 bps rate hike, the rates have gone up to the range of 3.75% to 4.00%. Since March, the Federal Reserve has hiked rates by 375 basis points, of which 300 bps has come in equal tranches in the last 4 Fed meetings. Fed is now veering towards a terminal Fed Funds rate in the range of 5.00% to 5.50%. What is giving the Fed the confidence to be so hawkish? Probably, the Fed is enthused by the fact that the US GDP showed a turnaround in September quarter, growing at +2.6%. This came after 2 quarters of negative growth, perhaps ruling out the recession risk.

One question is what will be the terminal rate be and how do we judge it. One good way to judge is to look at the probability of rate hikes through the lens of the Fed Fund futures trading as measured and presented by the CME Fedwatch. Currently, rates are at the range of 3.75% to 4.00% and CME Fedwatch indicates that the most likely range for the Fed rates by the first half of next year is between 4.75% and 5.50%. The bias will be on the upper end of the range. In short, there is still a good deal of hawkishness left to be implemented by the Fed. All this is based on the assumption that the growth is not grossly damaged.

There are couple of things you need to know here. Firstly, the Fed is hinting at another 50 bps rate hike in December with an outside probability of 75 bps. The neutral rate in the US is 2.50% and it is already 150 bps above that. From here even 25 bps will start pinching economic performance. The answer will depend on the beast of inflation. Fed would not be looking at just the consumer inflation but at specific headers like the food inflation and core inflation. It will also loo at the PCE inflation, but if the core inflation and food inflation remain sticky, then rest assured there is more of rate hikes to come.

What did Powell say and what exactly did he mean or left unsaid. Firstly, Powell is ready to take the rates to a sufficiently restrictive level; which is not defined but could be 250-300 bps above neutral rate of 2.5%. Secondly, FOMC said rather cryptically that it would account for the cumulative tightening of monetary policy. It is not clear if this holistic picture will also cover the sensitivities of other economies. Finally, Powell is not so confident about a soft landing of the US economy. However, he has held on to the belief that while there could be some disruption to growth, a recession or contraction would be avoided.

What does the Fed policy statement mean for India? The MPC special meeting was rather listless and uneventful, which they should have ideally used to give some indication or direction about the trajectory of rates. Economies the world over are struggling to tackle inflation and it would be puerile to expect that India would be able to really act insular. The opportunity of the special meeting has been wasted by not giving any guidance either on inflation, or on the strategy or on the rates trajectory.

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