Over the past eighteen months the Federal Reserve has raised interest rates eleven times, bringing the policy rate 5¼ percentage points (ppts) higher. On Wednesday, the FOMC opted to hold rates steady for the second time in the past three meetings, as it fine-tunes its approach to the level it deems sufficiently restrictive to return price stability to the economy. The Fed adopted the same policy decision it implemented in June - a hawkish pause if you will - indicating their expectation that one further rate hike is in the cards for 2023. In response, Treasury yields jumped to their highest level since 2007, with the ten-year yield rising by 12 basis points (bps) on the week to 4.4%, while equities fell with the S&P 500 down 2.3% as of the time of writing.

Accompanying the FOMC decision on Wednesday, the updated summary of economic projections (SEP) showed that the median FOMC member is projecting a de-facto soft landing for the U.S. economy. The median member expects the unemployment rate to rise only 0.3ppts by the end of next year. For reference, the U.S. unemployment rate just rose by 0.3ppts in August alone. The Fed’s expectation that inflation will be at 2.5% by the end of 2024 remained unchanged. However, the number of rate cuts for next year was pulled in, with the median FOMC member expecting the policy rate to be only 25bps below the current level at the end of 2024 - 50 basis points higher than in the June SEP (Chart 1). While these projections are decidedly hawkish, Chair Powell continued to emphasize that the Fed’s future decisions will depend on incoming data and its implications for the trajectory of inflation.

On that front, we saw in the housing data released this week that the interest rate sensitive sector continues to feel the strain of higher rates, as homebuilding activity faltered in August on slowing demand for new homes. With mortgage rates back above 7%, a similar curtailment of demand was seen in existing home sales in August, which declined for a third consecutive month (Chart 2). Price growth, however, has continued to push higher, as the highest mortgage rates in 22 years has left many would-be sellers locked-in to their lower rates, limiting resale supply. This dynamic is being monitored by the Fed but is unlikely to influence monetary policy discussions due to the lagged and proxied measurement of shelter costs in the CPI and PCE indexes.

Looking ahead, there is no shortage of upcoming events that will be on the Federal Reserve’s radar. This includes the UAW strike, which was extended to an additional 38 parts and distribution facilities this morning as negotiations continue to progress slowly. In the most recent round of strike action, the UAW has targeted General Motors and Stellantis, citing negotiation progress with Ford as the reason for the company’s exclusion. This is expected to create additional disruptions on top of the roughly 7.5% hit to U.S. production stemming from the first round of strike action. Also on the horizon is a looming shutdown of the federal government, with only a few days left before the October 1st deadline. Adding to the impacts expected from the end of the moratorium on student debt repayment, it is clear that the Federal Reserve’s data-dependency approach is set to become more challenging over the near-term.

Andrew Foran, Economist | 416-350-8927