Persistent Inflation: Hopes for Multiple Fed Rate Cuts This Year Dashed?

The market is no longer "confident" that the Federal Reserve will definitely cut interest rates once this year...

The market's hope for multiple interest rate cuts by the Federal Reserve this year is gradually fading. A series of recent remarks by Federal Reserve officials highlight that they intend to keep borrowing costs high to curb the persistently high inflation, as long as it is necessary.

A key reason for delaying rate cuts is that the inflationary pressures troubling the economy are largely driven by some lingering forces - from apartment rents to auto insurance to hospital prices. Although Federal Reserve officials say they expect prices in these areas to eventually cool down, they have also hinted that they will wait as long as needed.

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However, the willingness of Federal Reserve policymakers to maintain the key interest rate at the highest level in 20 years, thus keeping mortgage, auto loan, and other forms of consumer borrowing costs high, also carries risks.

The Federal Reserve's task is to strike a balance between keeping interest rates high enough to control inflation and not so high as to harm the job market. Although most indicators show that economic growth and recruitment remain healthy, some economic indicators have begun to show signs of weakness. The longer the Federal Reserve keeps the benchmark interest rate high, the greater the risk of triggering an economic downturn.

At the same time, opinion polls show that as the presidential election approaches, the rise in rents, grocery prices, and gasoline prices has angered voters. Former U.S. President Trump completely blames President Biden for the price increases.

Under Powell's leadership, the Federal Reserve raised the benchmark interest rate by 5 percentage points from March 2022 to June 2023, the fastest rate hike in 40 years. According to the Federal Reserve's preferred measure, the inflation rate has dropped from 7.1% in June 2022 to 2.7% in March of this year.

However, the same indicator shows that housing prices accelerated in the first three months of 2024, breaking the steady slowdown in inflation last year. Economists expect that the PCE price index to be released on Friday will rise by 2.7% year-on-year.

Another inflation indicator released in the United States this month shows a slight decline in the CPI in April. However, as inflation remains stubbornly higher than the Federal Reserve's target level, Wall Street traders now expect the Federal Reserve to cut interest rates only once in November this year. Even so, it is difficult to say that this is a foregone conclusion, with investors considering the likelihood of the Federal Reserve cutting interest rates in November to be 63%, lower than the 77% a week ago.

Last week, Goldman Sachs became the latest major bank to abandon bets on a Federal Reserve rate cut in July, but the bank still believes that the Federal Reserve will cut interest rates twice this year and has postponed the first rate cut to September. The Oxford Economics Institute also made a similar call last month. Bank of America expects the Federal Reserve to cut interest rates only once in December this year. Just a few months ago, many economists still predicted that the Federal Reserve would make its first rate cut in March this year.Cleveland Federal Reserve President Loretta Mester said this month, "We need to gather more data in the coming months to have a clearer picture of the inflation outlook. I now believe that achieving the 2% target will take longer than I previously thought."

As more data is released, there are also signs that the economy is cooling down. For instance, data from the New York Federal Reserve shows that an increasing number of Americans, especially young people, are falling behind on their credit card payments. In the first quarter of this year, the proportion of credit card debt that is 90 days or more overdue reached 10.7%. This is the highest proportion in 14 years.

Julia Coronado, President of MacroPolicy Perspectives and a former Federal Reserve economist, said, "There are many signs that consumers are losing some momentum, hiring demand is cooling, and you may see more slowdowns."

However, Coronado and other economists also believe that the latest trends indicate that after a period of rapid growth, the economy may just be normalizing. Businesses are still hiring, but at a slower pace than at the beginning of the year. Data shows that the number of Americans traveling over the Memorial Day weekend reached a historical high, indicating their confidence in their financial situation.

One reason inflation remains higher than the Federal Reserve's target is that despite most other areas of the U.S. economy having moved past the pandemic, the distortions caused by the pandemic still keep some prices high.

Two years ago, housing costs, led by apartment rents, surged as many Americans sought additional living space during the pandemic. Rent costs are currently slowing down, with a 5.4% increase year-over-year in April, lower than the 8.8% increase from the previous year. However, their growth rate is still faster than before the COVID-19 pandemic.

Last month, housing inflation accounted for almost two-thirds of the core inflation year-over-year growth rate, and Powell and other Federal Reserve officials acknowledged that they had expected rents to fall faster than they actually did.

However, since mid-2022, the cost of new leases has dropped significantly. A new rental apartment rent indicator calculated by the government shows that rents in the first three months of 2024 only increased by 0.4% compared to the same period last year. However, it will take some time for the newer, lower-priced rents to be reflected in the government's inflation indicators.

Federal Reserve Vice Chairman Jefferson said last week, "Market rents adjust to economic conditions faster than the rents landlords charge to existing tenants. This lag indicates that the significant increase in market rents during the pandemic is still being passed on to existing rents, which may keep housing service inflation high for some time."

Automobile insurance costs have soared by nearly 23% compared to the previous year, reflecting the surge in the prices of new and used cars during the pandemic. Insurance companies now have to pay more money to replace scrapped cars, so they charge their customers more. Former Federal Reserve economist Claudia Sahm said:"This is related to what happened in 2021, and you cannot go back to change that."