The Federal Reserve has signalled that US borrowing costs are likely to remain higher for longer as a it wrestles with persistent inflation across the world’s biggest economy.
The Federal Open Market Committee said after its meeting on Wednesday that there had been “a lack of further progress” towards its 2 per cent inflation goal in recent months – an addition to its statement that in effect delays rate cuts until the second half of this year at the earliest.
But the Fed also indicated that it was not yet considering new rate rises to counter the recent rise in inflation, saying that the risks to meeting its joint goals of full employment and subdued price pressures had “moved towards better balance over the past year”.
The comments from the US central bank came as it held interest rates at 5.25 per cent to 5.5 per cent, a 23-year high that has been in place since the summer of 2023.
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The higher-for-longer rate signal from the Fed follows recent data showing that inflation had crept higher again, largely driven by costlier fuel, while the US economy grew more slowly in the first quarter of the year than expected.
The comments from the central bank also mean that borrowing costs could remain higher for many US voters in the run-up to this year’s presidential election in November. President Joe Biden said recently that he “expected those rates to come down” this year.
“The Fed’s room for manoeuvre has shrunk drastically, with inflation ticking up, growth slowing, and the political calendar becoming an increasingly tight constraint,” said Eswar Prasad, an economics professor at Cornell University.
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“The spectre of stagflation, which the Fed seemed to have decisively put behind it in 2023, is now back in the picture,” he added.
The Fed also announced that from June it would reduce the cap on the amount of US Treasury bonds it allows to mature each month, without buying them back, from $60 billion (€56bn) to $25 billion. It would still allow up to $35 billion in mortgage-backed securities to roll off the balance sheet. Any principal payments in excess of the $35 billion cap would also be reinvested in Treasuries.
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In a market where some Treasury auctions are currently at record sizes, the slowdown in quantitative tightening could help bolster prices and lower yields. US rate-setters had hoped to cut interest rates three times this year, but higher-than-expected inflation in recent months has raised the prospect that the Fed will keep borrowing costs at current levels for the duration of 2024.
Ahead of the meeting traders in the futures market were betting on between one and two cuts this year, with the first reduction not fully priced in until December. The initial market response to the statement was muted, with Treasury bond yields slightly lower following the release. After some choppy trading, stocks remained lower on the day.
The Fed statement on Wednesday came after recent price data showed its progress in lowering inflation in 2023 has stalled this year.
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The headline personal consumption expenditures measure, on which the Fed’s 2 per cent goal is based, edged up in March – to 2.7 per cent from 2.5 per cent in the year to February.
Rate-setters’ preferred gauge of underlying price pressures, core PCE, which strips out volatile food and energy prices, was unchanged at 2.8 per cent.
While the progress on inflation has stalled, economic growth has also fallen back, with gross domestic product dropping in the most recent quarter to an annualised rate of 1.6 per cent, down from 3.4 per cent in the fourth quarter of 2023.
Analysts have also warned that turmoil in the Middle East could push oil prices higher, adding to inflation for other goods.
The jump in fuel costs led some analysts to warn about the prospect of “stagflation” if energy prices continued to rise while economic growth cooled.
– Copyright The Financial Times Limited 2024
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