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US inflation cools but rate hike still looms

By Charbel Kadib
1 minute read

The annualised inflation rate in the United States has slipped to its lowest level in almost two years, but the dip will not be enough to change the monetary policy tightening bias.

The consumer price index (CPI) in the United States rose 0.1 per cent in March, easing from a 0.4 per cent increase in February and a 0.5 per cent jump in January.

In annual terms, inflation fell to 5 per cent in the 12 months to March 2023 — the lowest level since May 2021.

According to the US Bureau of Labor Statistics, the 0.1 per cent monthly increase was underpinned by 0.6 per cent rise in the cost of shelter, offsetting a 3.5 per cent decline in the energy index.


Despite underlying progress towards the inflation target, analysts expect the US Federal Reserve to hold fast to its monetary policy tightening strategy.  

James Knightley, chief international economist at ING Economics, said the 0.4 per cent increase in core inflation (excluding food and energy) would support a 25 bps hike at the upcoming Federal Open Market Committee (FOMC) hearing next month.   

“Inflation continues to run ahead of the 0.17 per cent month-on-month rate required to bring inflation to 2 per cent year-on-year over time, but we are heading in the right direction,” he said.

“Even so, the Federal Reserve remains nervous and appears inclined to hike rates 25 bp again at the 3 May FOMC meeting.”

A 25 bps hike in May would take the federal funds rate to 5–5.25 per cent, which Mr Knightley said would mark an end to the tightening cycle.

Tighter credit conditions, exacerbated by local banking instability, would help accelerate disinflation.  

“The combination of higher borrowing costs and the tightening of lending conditions that will inevitably result from the fallout of the recent banking stresses heightens the risk of a hard economic landing,” he said.

“This will make it even more likely that inflation returns to the 2 per cent target by early next year.”

Fed chair Jerome Powell referenced tighter credit conditions and banking volatility in his post-meeting statement last month.

Mr Powell acknowledged continued inflationary pressures but said recent banking sector volatility would likely result in tighter credit conditions for households and businesses. 

This, he conceded, could undermine the Fed’s long-term macroeconomic objectives and would hence require a moderation of the central bank’s tightening bias. 

“It is too soon to determine the extent of these effects, and therefore too soon to tell how monetary policy should respond,” he said. 

“As a result, we no longer state that we anticipate that ongoing rate increases will be appropriate to quell inflation.

“Instead, we anticipate that some additional policy firming may be appropriate.” 

The Fed’s latest forward projections point to one additional 25 bps hike, with the median expectation among FOMC members pricing in a funds rate of 5.1 per cent by the close of 2023 and no rate cuts. 

ING’s Mr Knightley said if inflation “slows rapidly” through the second half of the year and lifts the unemployment rate, the Fed could cut rates by 100 bp before the end of the year.

In Australia, the Reserve Bank of Australia’s (RBA) next monetary policy call is expected to hinge on the latest quarterly consumer price index (CPI), due to be released on Wednesday, 26 April.

ANZ Research is projecting a quarterly CPI of 6.9 per cent, down 0.9 percentages points from 7.8 per cent in the three months ending 31 December 2022.

“The RBA will likely take comfort that headline inflation appears to be falling faster than it forecast in February,” the research group noted.

Given its projection of a steep decline in annualised inflation, ANZ is expecting the RBA to keep the cash rate on hold at 3.6 per cent before actioning one last hike in August.

The RBA has lifted the cash rate by a cumulative 3.5 per cent since May 2022, but a run of economic data pointing to a slowdown in aggregate economic activity has prompted a shift in the central bank’s outlook.

Following the April monetary policy board meeting, RBA governor Philip Lowe said the board decided to provide “additional time” to assess the impact of its previous hikes.

“The board recognises that monetary policy operates with a lag and that the full effect of this substantial increase in interest rates is yet to be felt,” he said.

Michelle Bullock, deputy governor of the RBA, reaffirmed this stance during a panel discussion hosted by the Western Economic Association International (WEAI) in Melbourne on Wednesday (12 April).

Ms Bullock said a rate pause was “always on the cards”, stressing that banking volatility in the US and Europe — headlined by the collapse of Silicon Valley Bank — did not force the central RBA’s hand.

“We had already suggested that we were thinking about pausing because we’d moved 350 basis points, 3.5 percentage points, in quick time,” she said.

“…In other tightening cycles, we typically move a bit and then we stop and watch [but] we had to get from emergency low levels, remove all that stimulus and get into restrictive territory.”

US inflation cools but rate hike still looms

The annualised inflation rate in the United States has slipped to its lowest level in almost two years, but the dip will not be enough to change the monetary policy tightening bias.

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