Unlike the Bank of Canada, the US Federal Reserve (Fed) has stayed on the path of predictability… As Wall Street likes.
The three-quarters of a percentage point hike in the Federal Reserve’s target rate — the second of this magnitude in a row — was expected, but some suggested the possibility of a mimicry with the Bank of Canada, in the form of a surprise hit of 100 points. We then feared sending a confused signal to a stock market dithering between the risk of inflationary slippage and that of a recession. Wall Street was comforted by this, if we rely on benchmark indices accelerating their rise at the end of the session to close higher.
Investors hailed the central bank’s determination to fight inflation. But also the assurance of its president, Jerome Powell, who declared, the day before the publication of data on GDP for the second quarter, that the American economy was not in recession.
Canadian Surprise
Facing one of the most interest rate-sensitive economies in the G20, the Bank of Canada surprised earlier this month by cutting its key rate by 100 basis points, pushing the financing rate overnight at 2.5%. Its governor, Tiff Macklem, said on July 13 that “a rise of this magnitude in one fell swoop is highly unusual. And it comes in a very unusual economic context.”
The central bank wanted to express its determination to regain control over inflation with a rather felt blow, with the aim of decelerating demand more abruptly and preventing an unanchoring of long-term expectations. “We are rapidly raising our policy rate to prevent high inflation from taking hold. If that happens, bringing inflation down will be more difficult, both for the economy and for Canadians. »
“By raising the key interest rate now, we are trying to prevent interest rates from having to be even higher later. Accelerated monetary tightening cycles tend to be followed by softer landings. This argues in favor of a rapid increase in our key rate to the upper limit of the neutral rate range or slightly above it,” added Tiff Macklem. This long-term neutral rate, which neither stimulates nor hinders growth, is in the range of 2 to 3%, the central bank estimates.
And the governor added: “However, the runway for this soft landing has become narrower, because high inflation is proving more persistent. »
As for the Fed, the monetary committee, like the Bank of Canada, indicated on Wednesday that “further increases in key rates will be appropriate”. The institution’s chairman, Jerome Powell, went further, saying that another “unusually high” hike could be needed at the next monetary committee meeting in September.
While struggling as best it can in recessionary terrain, the Fed hopes to pull off a “soft landing,” but the long-awaited economic slowdown to drive prices down could prove stronger than hoped, a reminded Agence France-Presse (AFP). “We are not trying to cause a recession […] We believe there is a path to lower inflation while supporting a strong job market, Powell said. Our goal […] is to reduce inflation and achieve what is called a “soft landing”, which means without a significant increase in unemployment. »
Looking ahead, here’s what Wall Street expects from the Fed. According to Oxford Economics, the prevailing scenario calls for another 75 basis point hike in September, followed by a slowdown in pace to 25 basis points through early 2023, pushing the rate target in the range 3.75%-4%, against 2.25%-2.5% currently. We should then see an easing of monetary austerity in order to support the economy.
And, in order to give more to the market, Jerome Powell, during his press conference on Wednesday, added that “at a certain point it will be appropriate to slow down”. For analyst Peter Cardillo, of Spartan Capital, “what pleased the market was the fact that Mr. Powell said that they could slow the pace of the rises in the future, which does not exclude a 50 basis point hike” in September.
The bets are open.
Recession or not?
The debate rages on… with a political coloring. The White House anticipated the announcement of GDP figures for the second quarter with a blog post in which the American presidency rejects out of hand the “classic” definition of a recession: two consecutive quarters of economic contraction . The International Monetary Fund points out in a note that there is no official definition, but most commentators and analysts use two consecutive quarters of declining real GDP as a working definition. For others, the only judge in the United States is the National Bureau of Economic Research (NBER). “A recession is the period between a peak in economic activity and its nadir,” writes the NBER on its website, which emphasizes: “A recession involves a significant decline in economic activity, widespread across the economy and lasting longer than a few months”.