Federal Open Market Committee, 14/06/2023

Federal Open Market Committee meeting, US Fed. 13-14/06/2023

Fed pauses rate hikes but asset run-off continues.      

As widely predicted, the Federal Open Market Committee voted unanimously to keep the Fed Funds Rate unchanged at 5% - 5.25% during its meeting on 13^th and 14^th June. This is the first time since March 2022 that the FOMC has not voted to increase the cost of borrowing. This decision does not imply that the end of the tightening cycle has yet been reached. “It may make sense for rates to move higher but at a more moderate pace,” Fed chairman Jerome Powell told the press after the meeting. All eyes will now turn to the July 26^th meeting after this “hawkish pause”

Furthermore, this decision not to raise the cost of borrowing does not alter the fact that the Fed is still pursuing a very tight monetary policy. The run-off of assets purchased between 2020 and 2022 in response to the coronavirus pandemic will continue at an overall rate of $95b. per month, admittedly with some leeway for some reinvestment “if needed for operational reasons”, as the implementation note from June’s meeting put it. The likelihood, given Mr Powell’s comments, is that an already tight policy will become tighter still, albeit not at such a rapid rate as during 2022. The indicators most closely watched by the Fed suggest that the US economy has been fairly resilient thus far, given the steep increases in the costs of borrowing. GDP increased by 1.3% in the first quarter of 2023, according to the “second” estimate released on 25^th May. Unemployment did increase in May, but at 3.7%, this is still low by recent standards. 339,000 new jobs were added to the non-farm payrolls in May and the annual rate of wage growth stands at 4.3%. The annual rate of consumer price inflation is falling, mainly due to a drop in the price of energy-related components. May’s reading of 4% is the lowest in over two years. The increase in prices at the factory gate fell to just 1.1% in the same period.

This positive picture ignores the very concerning decline in US M3. After peaking in August 2023, the quantity of money, broadly defined, has fallen by almost $800b. The annualised quarterly rate of decline stood at 5.6% in the three months to April. These figures are almost as low as the minima reached during the Great Financial Crisis of 2008-10. On that occasion, however, the Fed responded by reducing interest rates. At the moment, there is no indication whatsoever that the Fed intends to pivot to a looser monetary policy. Its determination to bring inflation down to 2% currently appears to override any other consideration. The US economy is being kept afloat by the monetary overhang from 2020-22. Companies and households still have cash to spend. The warning signs are already there in the shape of a declining housing market. No updates have been posted since March, but the annual rate of increase in property prices had fallen to 3.3% then, having stood at 18% a year earlier. The amount of new credit advanced to businesses is also declining. In summary, although it may not happen until the end of this year or possibly early next year, the money numbers still strongly suggest that the US economy is heading for a recession.