Federal Reserve officials are entering an uncertain summer. They are not sure how quickly inflation will fall, how likely the economy is to slow, or how long interest rates must remain high to ensure that rapid price increases are completely eliminated.
What they do know is that, for now, the labor market and the broader economy are holding up even in the face of higher borrowing costs. And given that, the Fed has a safe play: Do nothing.
That’s the message central bankers are likely to send at their two-day meeting this week, which ends on Wednesday. Officials are expected to leave interest rates unchanged, avoiding any firm commitment on when they will cut them.
Policymakers will release a new set of economic forecasts, and these could show that central bankers now expect to make just two rate cuts in 2024, down from three last forecast in March. Economists believe there is a small chance officials will be able to forecast even a single cut this year. But whatever they predict, officials are likely to avoid giving a clear signal about when rate cuts will begin.
Investors don’t expect a rate cut at the Fed’s next meeting in July, after which policymakers won’t meet again until September. That gives officials several months of data and plenty of time to think about their next move. And because the economy is holding up, central bankers have room to keep interest rates unchanged as they wait to see if inflation slows without worrying that they are on the brink of plunging the economy into a sharp recession.
“They will continue to suggest that rate cuts are coming later this year,” said Gennadiy Goldberg, chief U.S. interest rate strategist at TD Securities. He said he expected a cut in September and didn’t think the Fed would give any indication of timing this week.
“There’s no need to rush,” he explained. “Things are slowing down very gradually. They don’t fall off a cliff.”
Fed officials have kept interest rates at 5.3% since July after raising them sharply from near zero starting in March 2022. Higher Fed rates are seeping through financial markets and making it more expensive for consumers and businesses to borrow money.
Over time, higher borrowing costs are expected to slow growth by weighing on the housing market and causing people to delay big purchases like cars. They also tend to discourage companies from expanding, prompting them to hire fewer workers. And as interest rates weigh on demand, they should, in theory, make it harder for companies to raise prices as quickly, helping to slow inflation.
However, today’s increased interest rates take time to weigh on the economy, and recent data has given Fed officials reason to hold off on impending rate cuts.
Officials have been clear that they could cut rates sooner rather than later if hiring slowed and unemployment started to rise — but so far, that’s not happening. Job gains last month were much stronger than economists expected and wage growth accelerated, a sign that demand for workers remained steady.
Inflation, meanwhile, has been stubborn. Price increases slowed sharply in 2023, but that progress stalled in the first months of 2024. They eased slightly in April, but policymakers said they want further evidence that inflation is slowing again before they start cutting rates.
The May reading of the Consumer Price Index will be released on Wednesday morning, giving officials the latest inflation data just before their 2pm decision on interest rates. Economists in a Bloomberg survey expected to see some slight cooling in a closely watched measure of “core” inflation, which strips out volatile food and fuel prices to give a clearer sense of how prices are playing out.
Fed officials aim for 2% inflation on average over time, and the central bank sets that target using the Personal Consumption Expenditure index — a separate measure of inflation that uses some data from the Consumer Price Index but is published later within the month. It also remains elevated, at 2.7%.
And in a development that may worry Fed officials, consumers have begun to report higher long-term inflation expectations. Measures released by both the University of Michigan and the New York Federal Reserve have accelerated in recent months.
Some Fed officials have suggested they still believe inflation stability in early 2024 is likely to fade over time.
“I see some of the recent inflation readings as representing mostly a reversal of the unusually low prices of the second half of last year, rather than a break in the overall downward trend in inflation,” John C. Williams, the president of the Federal Reserve Bank of New York, he said during a speech on May 30.
But Mr Williams and his colleagues have been clear they are willing to keep interest rates high for longer than previously expected until they are confident inflation is easing again. As higher interest rates remain, both investors and consumers are eager to see them come down.
Today’s relatively high interest rates are having a noticeable, even painful, effect on some borrowers: credit card rates have skyrocketed, it’s expensive to finance a car purchase, and home sales have slowed as mortgage rates have topped 7% .
But as they hit some customers in the wallet, high borrowing costs have had an uneven legacy when it comes to putting the brakes on the economy as a whole. The housing market has slowed, but it hasn’t fallen off the cliff. Overall economic growth has slowed recently, but has broadly picked up.
Most Fed officials have suggested they don’t expect to raise rates any further, even with this unexpected resilience. While they are reluctant to completely rule out such a move, they are more willing to simply let the borrowing costs sit on hold for a long period of time.
“It’s really a matter of keeping policy at the current rate for longer than we thought,” Fed Chairman Jerome H. Powell said during a speech last month.
