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The recent release of the US Consumer Price Index (CPI) report questions much about the hawkish policy stance that the Federal Reserve has held. This paper will try to extract key features from the report, the new policy consensus for the Federal Reserve, and what that could mean for the US dollar and interest rates. (Sourced from https://www.chicagofed.org/publications/speeches/2022/june-22-cbj-mid-year-economic-review )
US Dollar Performance Against the Backdrop of the CPI Report the US dollar, after the release of CPI data, behaved quite volatilely. The intra-day low of the dollar index was 104.26, but presently, it is steady at 104.80. The initial reaction to the policy update from the hawkish Fed was a devaluation in the dollar, but ground has been lost over time. (Sourced from https://www.kiplinger.com/investing/december-cpi-report-what-the-experts-are-saying-about-inflation )
Updated Policy and Rate Cut Projections of Fed the Fed's new policy view comes with an updated DOT plot that shows moving to just one rate cut this year from three considered back in March. And in the end, the voting distribution reflects a very balanced view among FOMC members:
Last x New Dot Plot
Four board members anticipate no rate cuts. Seven members are waiting for one more cut in rates. Eight Board members predict two rate reductions. This hawkish tilt was partially offset by an extra rate cut that the Fed tacked onto forecasts for next year—indeed, what had been a convincing-looking forecast for sticking at 1.6% is now chalked up to trying to stave off the lower rates impulse. The median rate projection for the end of 2026 sticks with 3.1%, and the longer-run neutral policy rate gets a bit higher, to 2.8%.
Market Scepticism and Powell's Comments Though the Fed is currently pointing to just one interest rate cut, the market isn't buying it.
There is approximately 43 basis point easing factored into the December FOMC meeting. Going back to the press conference, Powell also signalled his support for the softer-than-forecasted release of the May CPI report. However, he was also quoted as saying that the revised set of forecasts may still not take it into account, which opens room for signalling more cuts in the second half of the year. Key Points from May's CPI Report the May CPI Report: More indications that the early year surge in inflation that caught the street's attention was not the birth pang of an extended period of higher-than-expected inflation.
Core inflation slowed for a second straight month in the April-June period, with a 0.16% uptick in prices every month —the slowest pace since August 2021.
US CPI
Core goods inflation fell for a third month in a row by -0.04% M/M, led lower by a -0.5% drop in new vehicle prices. Core services inflation declined to +0.22% m-o-m in May from +0.41% in April, even as rent and owners' equivalent rent (OER) made modest increases.
Ex-housing inflation, and core services inflation declined marginally by -0.04% month-over-month. Impact on Future Policy Rate Cuts and Inflation Trends the May CPI report would be consistent with the core PCE deflator rising by only +0.1% m/m in monthly terms, pulling the annual rate to closer to 2.5%, which would help make the case that the Fed might be cutting rates multiple times this year if inflation keeps sliding.
Any weakness in the labour market at this point could only further solidify the latter view. Conclusion The implications of the last CPI report on Fed monetary policy and the trajectory of the US dollar are enormous. Although the Fed has held a hawkish stand, speculation in the market, combined with lighter data on inflation, will likely drive the central bank towards multiple cuts. Thus, it could be essential to follow, as this may determine the state of the economy over some months and the dollar.
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