Federal Open Market Committee, 27/7/2023

Federal Open Market Committee meeting, US Fed. 26-27/07/2023

Further increase in the Fed Funds Rate.      

After voting to pause its tightening cycle at its June meeting, the Federal Open Market Committee voted unanimously to increase the Fed Funds Rate by 25bps to 5.25% - 5.5% during its meeting on 26^th and 27^th July. This is the eleventh increase in the cost of borrowing since March 2022 and it raises the Fed Funds Rate to a level not seen for more than 22 years. 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 July’s meeting put it. After the meeting, Fed Chairman Jay Powell left open the possibility of further increases, saying that the FOMC would make its assessment on a “meeting by meeting” assessment. He insisted that the Fed still has “a long way to go” in its quest to bring inflation down to its 2% target, but overall, his “forward guidance” was pretty vague.

In the year to June, CPI prices rose by only 3%, a fall of over 1% on May’s figure and the weakest reading since March 2021. Falls in the price of fuel helped bring the overall inflation figure down. Core PCE – the Fed’s preferred measure of inflation – rose 4.6% annually in May. Thus far, the US economy has remained fairly resilient in spite of this unprecedented scale of tightening. In fact, Fed forecasts no longer show the US economy falling into recession this year. Thus far, the US economy has remained fairly resilient in spite of this unprecedented scale of tightening. GDP increased at an annualised rate of 2% in the first quarter of 2023 and 2.4% in Q2. (in June the Fed had forecast the US economy to expand by 1% this year). The US labour market remains tight, with the unemployment rate a mere 3.6% and wage increases averaging over 5.7% in the year to May, now higher that the inflation figure.

The most recent US broad money figures suggest that M3 grew by $192b. in May, the first increase since May. The overall value of bank deposits increased for the first time after almost a year of sustained decline. Both the annual and annualised quarterly growth rates remain negative, however, and the Fed’s own data for June suggest that May’s broad money numbers be a blip. “Loans and leases in bank credit” turned negative in June – i.e., less money was loaned by US banks in June compared to May.

Businesses are showing less enthusiasm to take out new bank loans while the declining US housing market offers further evidence that the resilience in the US economy may not last. Mortgage lending fell sharply in June while the annual rate of increase in property prices has fallen from 16.2% to 2.8% in the space of just 11 months. Indeed, the Case-Shiller index, which focuses on prices in the 20 largest US cities, fell by 1.7% yoy in May and has been negative since March. The stock market remains buoyant (S&P 500 Index up nearly 20% YTD), but the money numbers and this month’s further tightening of monetary policy still suggest that the US economy will likely lose its momentum. A US recession remains our core call, probably in the first half of 2024.