Fed Needs to Consider Financial Stability in Interest Rate Decision

The market was relieved to see that the February Consumer Price Index (CPI) was in line with economists’ expectations, with a 0.4% increase from January, and a 6.0% year-over-year increase.[0] Core CPI, which strips out food and energy, rose 0.5%, slightly higher than the median forecast of economists in a Bloomberg survey.[1] The Core CPI services ex-shelter, which rose by 0.43% in February, was faster than the 0.26% in January, likely adding to the pressure on the Federal Reserve to continue raising rates.[2]

The market reaction was mixed, with U.S. stocks rising on Tuesday in response to the report, while Treasury yields were volatile.[3] The 10-year U.S. Treasury yield jumped 11 basis points to 3.63% and the 2-year yield added 30 basis points to 4.33%, after suffering a 60 basis points drop on Monday.[3]

The Federal Open Market Committee will need to consider the instability in the banking system when it meets next week to decide on interest rates.[4] The probability of a 25-basis point hike at the Fed meeting has risen to 83.4%, according to the CME FedWatch tool, with the chance of no hike at all falling to 16.6%.[5]

Despite the fact that inflation levels have been generally behaving, the Fed still needs to take into consideration financial stability and lending conditions.[1] A strongly worded notice about the need to continue to fight inflation may be released, while pausing at the present time to assess the damage done to the banking industry beyond the three failures so far.[6]

0. “Inflation Report Eases Stock Market Jitters; This ETF In Play After Bitcoin Rallies 30% In 3 Days” Investor's Business Daily, 14 Mar. 2023, https://www.investors.com/market-trend/stock-market-today/inflation-report-eases-stock-market-jitters-this-etf-in-play-after-bitcoin-rallies-30-in-3-days/

1. “Some Relief: On-Target Inflation Data Bring Buyers Back in After Recent Volatility – Ticker Tape” The Ticker Tape, 14 Mar. 2023, https://tickertape.tdameritrade.com/market-news/some-relief-on-target-inflation-data-bring-buyers-back-in-after-recent-volatility-19417

2. “US inflation cools to lowest level since September 2021” Seeking Alpha, 14 Mar. 2023, https://seekingalpha.com/news/3947226-inflation-rises-in-line-with-forecast

3. “S&P, Nasdaq surge, Dow adds ~400 points as CPI data boosts bets for smaller Fed hike” Seeking Alpha, 14 Mar. 2023, https://seekingalpha.com/news/3947218-nasdaq-dow-jones-sp500-stock-market-cpi-svb-fallout

4. “The collapse of 2 lenders just made the Fed's inflation fight harder” NPR, 14 Mar. 2023, https://www.npr.org/2023/03/14/1163129029/the-fed-already-had-a-tough-inflation-fight-now-it-must-deal-with-banks-collapsi

5. “Consumer Inflation Report Buoys Equities” msnNOW, 14 Mar. 2023, https://www.msn.com/en-us/money/markets/consumer-inflation-report-buoys-equities/ar-AA18CxeC

6. “CPI Shrinks as Expected; Will the Fed Pause?” Yahoo Life, 14 Mar. 2023, https://www.yahoo.com/lifestyle/cpi-shrinks-expected-fed-pause-143302056.html

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