Key takeaways
- The Federal Reserve increased interest rates by 0.25% as anticipated
- The decision comes amid a turbulent week for the banking sector, the debt-ceiling crisis gaining speed in government and growing recession fears
- Stock markets were down, Treasury yields fell and Bitcoin was up at the news
It was a better-than-expected Fed meeting result yesterday – and it’s not every day you hear that, especially in the current economic climate. The Fed raised interest rates by a quarter percentage point as expected, but it left the door open for rates to pause for the rest of the year.
It’s kind of a crazy time for the US economy at the moment, especially in the last week as the debt-ceiling crisis in government developed and a third US bank failed. But the Fed’s position gave a lot of investors and analysts hope about the future. Let’s get into what happened, how the markets reacted and whether we’re facing a recession or not.
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What did the Fed decide?
The Fed voted unanimously to increase interest rates for the tenth time in a row as its monetary tightening policy continued. US interest rates are officially in the 5% to 5.25% territory, the highest since August 2007.
All eyes are now on what might happen next, as the outcome of the May meeting was largely considered to be the final interest rate hike by analysts and experts alike. The Fed chairman, Jerome Powell, said “a decision on a pause was not made today”, but investors picked up on the softer language concerning future rate rises, where the Fed statement said “the Committee anticipates that some additional policy firming may be appropriate”.
Incoming data on jobs, the consumer price index and inflation may influence the Fed by the time the June meeting happens, but Powell said it’s unlikely to introduce any rate cuts in 2023 as according to the Fed, inflation will still take some time to bring into line.
The central bank is also factoring in banks tightening their lending criteria to help tame the inflationary beast. The European Central Bank’s decision on interest rates is set to follow shortly, with analysts giving an 85% probability of a quarter-point hike in Europe.
What was the market reaction?
The rate rise comes in the same week a third US bank, First Republic, collapsed in the wake of the March crisis. It’s left regional bank stocks vulnerable ever since: PacWest shares are down a huge 42% this week, with talks of a possible sale now on the cards.
The stock market fell slightly at the Fed’s announcement. The S&P 500 is down 0.7%, the Dow Jones has slid by 0.8% and the tech-heavy Nasdaq Composite is 0.46% down, but the Nasdaq 100 futures was up 0.1%. Treasury yields fell, with the 10-year bond sliding to 3.364% and the two-year bond declining by 11 basis points to 3.867%.
Cryptocurrencies also responded well to the news. Bitcoin was up just over 2% on Monday morning, hovering around the $29,000 mark. The cryptocurrency is up 68% in 2023 after the ‘crypto winter’ saw the price spiral down. Ethereum also jumped 2% at the news to hit the $1,900 mark.
The gold market has recently enjoyed a bull run, climbing to highs of $2,072.19 – just shy of the all-time record from 2020 – before sinking back to $2,033.99 by Thursday morning. US gold futures rose 0.2%. We could see further declines if the US economy brings itself back in line.
Is a recession coming?
Well, we honestly don’t know anymore. It’s true: while the Fed has previously alluded that we would see a mild recession by the end of the year, Jerome Powell had a different view yesterday. He said “This time really is different”, and “Avoiding a recession is, in my view, more likely than having a recession.”
Uhh, hang on. So which is it: recession or no recession? The economic data that’s been trickling through has scrambled all forecasts and, at times, defied logic. Yet we’re seeing mass layoffs, a debt-ceiling crisis brewing in government and unemployment rising. If it walks and talks like a recession, we may be in one right now. But only GDP data can tell us if that’s true.
Powell didn’t rule out another downturn and emphasized a data-dependent approach. No different to what we’ve seen already. Nonetheless, Powell’s comments came as a welcome boost after a time of triple bank failures and regional bank stocks tanking. His reasoning was how resilient the jobs market had been despite the continued monetary tightening policy, so mass layoffs might not spread to other sectors.
And it’s a pretty good position for the Fed to be in. In their unanimous view, the US economy could handle further tightening despite the uncertainties, but they’re ready to bring the policy to an end if things start looking up. Well played, Powell.
The bottom line
It’s a pretty extraordinary time for economy nerds everywhere. We had a once-in-a-lifetime pandemic that triggered a recession, international war and its related disruptions, sticky inflation that won’t disappear, and a banking crisis. It’s created a unique economic situation that continues to befuddle many.
It’s no wonder the Fed keeps saying they’ll let the data dictate policy – because the rulebook has gone out of the window this time around. What will happen next? Literally nobody knows anymore, but the Fed will be hoping it’s done enough now to bring inflation down. Let’s see what happens.
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