Fed Focused on Inflation in Q4, Pivot Not Likely

October 07, 2022 14:15

Traders and investors hoping for a Federal Reserve pivot in Q4 might need to put their hopes on ice after yesterday’s speech by Governor Christopher J. Waller.

“I’ve read some speculation recently that financial stability concerns could possibly lead the FOMC to slow rate increases or halt them earlier than expected. Let me be clear that this is not something I’m considering or believe to be a very likely development.” Federal Reserve Governor Christopher J. Waller.

The central banker doesn’t agree with the speculation because the banks are well capitalized and the Treasury, equity and commodity markets are functioning normally, he said.

Housing market concerns

Other weak spots in the US economy don’t compare to the challenge of tamping down inflation and the central banker foresees continued interest rate hikes into 2023.

Nonetheless, there are concerns over the contraction in the housing market, according to the official. Housing inventories are rising as demand declines for new homes amid higher interest rates. Meanwhile, home prices rose at the slower pace of 10 percent in recent months compared with 20 percent in the 12 months ending in May, said Governor Waller.

The correction in the housing market may be mild at the moment, but the central banker did not rule out the possibility of a much larger drop in demand and house prices before the market normalizes.

Falling house prices could contribute to the Fed’s efforts to reduce core inflation but if it remains at the level of 0.6 percent seen in August, battling high prices will continue to be the Fed’s priority.

“Increases in broader interest rates should help moderate demand and damp inflation in other sectors. So, across sectors, a moderation in demand should help bring inflation down toward our 2 percent target.” Federal Reserve Governor Christopher J. Waller.

This means that all economic sectors, not just housing, should show a reduction in prices before the target inflation rate of 2 percent is reached.

Wider growth seen as ‘modest but below trend’ 

The US fell into a technical recession in the first half of the year, but based on recent economic data, Governor Waller sees modest, below trend growth in H2.

Relatively speaking, the US economy grew by 6.9 percent in the fourth quarter of 2021 and 2.3 percent in the third quarter. Below trend could be anywhere between 0 to 2.3 percent GDP growth in Q3 and 0 to 6.9 percent GDP this year, so the range is too wide for guesswork. We won’t know more facts until October 27 when the Advance Estimate of GDP is released by the Bureau of Economic Analysis.

One thing is for sure, if US growth remains in negative territory in the second half of the year, the Federal Reserve might have to factor this in when it comes to deciding on the size of interest rate hikes, which have been at the level of 0.75 percent for the last few months.

On the upside, the US job market appears to be resilient after the ADP jobs report showed that businesses added 208,000 positions in September. The ISM Services Index remains solidly in growth territory at the level of 56.7 in September, but there are weaknesses in the US manufacturing sector which shed jobs at the end of Q3.

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Sarah Fenwick
Sarah Fenwick Financial Writer, Admirals London

Sarah Fenwick's background is in journalism and mass communications. She has worked as a correspondent covering Swiss Stock Exchange news and written about finance and economics for 15 years.