US Fed chair Jerome Powell hikes interest rates for 4th time this year; economists downgrade growth forecasts

Economists have downgraded growth forecasts on the heels of data showing weakness in consumer spending, a tightening of financial conditions and a decline in US manufacturing activity

US Fed chair Jerome Powell hikes interest rates for 4th time this year; economists downgrade growth forecasts
Indian markets will likely benefit out of return of risk appetite globally and return of FPI funds. Image: Reuters

By Deepak Jasani

The Federal Reserve wrapped up its two-day meeting on July 27 with the widely expected announcement of another 0.75 percentage point hike (75 bps), in its efforts to cool decades’ high levels of inflation. The federal funds rate is now set to a target range of 2.25 to 2.50 percent. It was the second 75 basis point rate hike in a row and the fourth interest rate increase this year.

Fed chairman Jerome Powell, has signaled that the Fed is aware of the negative impact of its rate hikes on the economy. Powell also acknowledged the impact of rate hike on the economy. The American economy contracted an annualized 1.6% on quarter in Q1 2022 and the preliminary number for Q2 would be announced on July 28. The expectation is for 0.8% positive GDP growth compared with the prior quarter, according to FactSet. The number could be revised significantly and should be taken with a ‘grain of salt’, the Chairman said.

Fed chair Powell noted in his press conference that another unusually large interest rate rise might be needed in September but would depend on upcoming economic data, while he added that it will also likely be appropriate to slow increases at some point. 

Economists have downgraded growth forecasts on the heels of data showing weakness in consumer spending, a tightening of financial conditions and a decline in US manufacturing activity. Mortgage rates, which have doubled since the start of the year, are also cooling the housing market and some businesses are seeing lower demand.

Odds of a US recession in the next year are now roughly one in three, according to Bloomberg Economics. Investors bet the Fed will reverse course next year, halting rate hikes sooner than officials forecast and beginning to cut rates by mid-2023.

Treasury yields turned lower on Wednesday, while the spread between the 2- and 10-year yields remained deeply negative. The 2-year Treasury yield  declined 7.3 basis points to 2.968%, while the yield on the 10-year Treasury fell 5.5 basis points to 2.731%.

The US market latched on to Powell’s statement that slowing down from the pace of 0.75-percentage-point rate hikes will likely be appropriate “at some point.” The market also liked when Powell said the Fed was moving to a new “meeting-to-meeting” phase, perhaps believing that a peak in interest rates is near. Powell said the Fed’s program to shrink its balance sheet is working and markets “should be able to absorb this.” He said the plan was on track and could take two to two-and-a-half years.

Markets in India too have followed markets abroad by rejoicing the end of uncertainty for the time being. It may be kept in mind that in May and June, big gains post Fed rate hikes were followed by even bigger selloffs as investors parsed Chair Jerome Powell’s remarks and recalibrated expectations for the likely path of policy moves. 

Indian markets will likely benefit out of return of risk appetite globally and return of FPI funds. The party pooper could be either markets globally dissecting the latest outcome in a cautious manner soon and/or continuation of subdued run of corporate profitability in Q1 and muted guidance for the coming quarter/s. 

(Deepak Jasani is Head of Retail Research, HDFC Securities. Views expressed are the author’s own.)

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