A Fed move of 75 basis points is not a bull’s eye, says a former staffer

In the last 24 hours, investor expectations for the Federal Reserve have consolidated for a 75 basis point hike, nudged in that direction by an article in the Wall Street Journal.

Fed fund futures markets now see an overwhelming likelihood of a 75 basis point move in what would be the largest rate hike in nearly three decades. Investors only see a 3% chance of a smaller 50 basis point move.

In early May, Fed Chair Jerome Powell said officials had agreed on a plan to raise interest rates by 50 basis points on Wednesday and at the next Fed meeting. In their speeches over the last six weeks, officials seemed happy with the plan.

The sudden shift in expectations surprised many economists. Even with a sharp rise in CPI in May, along with an increase in inflation expectations, economists expected the Fed to hike 50 basis points and turn hawkish.

“Powell worked very hard to get the dissenting committee on board,” the plan for three consecutive 50 basis point moves, said Vince Reinhart, a former top Fed official and now chief economist at Dreyfus and Mellon.

As a result, Reinhart still believes there is a “higher chance than the markets currently see” for a 50 basis point move on Wednesday.

“They had a plan and could still stick to it,” he said.

Rubeela Farooqi, US chief economist at High Frequency Economics, agreed.

“Our basic view remains that the Fed will raise the target range by 50 basis points,” Farooqi said.

Why a bigger move?

Bill English, who was also a senior Fed staffer and is now a professor at the Yale School of Management, believes a bigger move would involve the Fed “stomping its foot” to emphasize that it’s not ready is to live with higher inflation.

Joe Gagnon, another former Fed staffer and now a senior fellow at the Peterson Institute for International Economics, said the 75 basis-point hike, if it goes into effect, would be aimed at catching people’s attention and possibly changing their behavior change.

If the Fed seems poised to put the brakes on the economy, the likelihood of a recession increases.

In that environment, in an environment of higher risk of recession, executives might think twice about raising prices, Gagnon said.

According to the Wall Street Journal article Investors in the Fed fund futures market are now seeing the Fed hiking raise its key interest rate to 4% by next summer.

Read: Here are 3 ways the Fed can sound more hawkish this week

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were lower on Tuesday, but only by relatively small moves compared to Monday’s sharp sell-off. The yield of the 10-year Treasury note TMUBMUSD10Y,
rose to 3.465% after hitting an 11-year high in the previous session. A Fed move of 75 basis points is not a bull’s eye, says a former staffer

Brian Lowry

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