Hawkish Powell opens door to a bigger move in March

Fed chair Jerome Powell provided unequivocally hawkish commentary in his appearance before the Senate Banking Committee on March 7, noting that recent economic data has “come in stronger than expected” and that would mean rates are “likely to be higher than previously anticipated.” Chair Powell also warned that not only would rates need to go higher, but that the pace of hikes could be accelerated should the “totality of the data” warrant larger moves.

This hawkish turn represents a shift in message from Powell who had been highlighting the start of disinflation in commentary after the early February FOMC decision. At that meeting, the Fed felt confident enough that inflation was trending lower to justify slowing its pace of rate hikes to 25bps from 50bps in December and several rounds of 75bps hikes in 2022. But since then, economic data from the US has remained robust, including an acceleration in the PCE price deflator which the Fed explicitly targets.

Two key datapoints in the days ahead will determine whether the Fed will need to move by 50bps at their March 22 FOMC meeting. Non-farm payrolls for February will be released on March 10 with markets expecting a slowdown from the substantial increase recorded in January (517k) to around 220k. That would help to keep the unemployment rate near decades-lows of 3.4% and suggest that rate hikes that have been taken so far—450bps since the end of 2021—are having a limited effect on the labour market so far, even as some major corporates have announced substantial restructurings, particularly in the tech and finance sectors.

More critical for the Fed will be the CPI print for February, released on March 14. Market expectations predict a slowdown in the pace of headline CPI to 6% y/y from 6.4% in January while core CPI is also set to slow to 5.4% from 5.6%. Market attention will focus on key pricing metrics such as core services ex-housing which has been slowing in recent data prints.

Markets have been quick to adjust pricing for the March 22 FOMC, almost fully pricing in a 50bps hike post-Powell’s commentary from firmly pricing in 25bps as of the end of last week. The peak in Fed Funds is now being priced at closer to 5.65% by September, nearly 100bps higher than the current upper bound of the target rate of 4.75%. Given the flow of data in recent weeks, the risk of the Fed going with a 50bps hike at its March meeting looks high. If there is no major miss or underperformance in the CPI or jobs numbers out over the next week, we will adjust our expectations for rates accordingly.