This Week's FOMC Meeting

The stock market will likely take this week's FOMC Meeting in stride, as the Fed's economic and policy outlook should not change fundamentally. 

The FOMC Central Tendency Forecasts still should expect slower growth and inflation in 2024 and two-three rate cuts.  Although recent data have been somewhat problematic with regard to this outlook, some of the difficulty may be temporary and, more importantly, it is too soon in the year for the Fed to react significantly to them.  In addition, lifting the inflation forecast could have adverse effects on its anti-inflation fight, as discussed below.  In any case, it is not clear whether the Fed's economic outlook for 2024 will work out or not.  This uncertainty should dampen any market reaction to the Fed's forecast. 

Evidence on the real-side of the economy so far is not out of line with the Fed's Central Tendency Forecast for 2024 made in December.  The Atlanta Fed model's forecast of 2.3% for the Q124 Real GDP is close to the 1.7% high end of the Central Tendency Forecast, while the 3.9% February Unemployment Rate is at the low end of the Forecast.  At this point, the Fed's 2024 forecasts of Real GDP Growth and the Unemployment Rate look attainable.  However, the markets still can't be certain this will be the case.  Indeed, there are signs of faster economic growth from Unemployment Claims, the Phil Fed Leading Index of Capital Spending, and commodity prices.  A weather-related bounce-back into the Spring, particularly in Retail Sales, is possible.  And, fiscal stimulus remains in effect.

Evidence on inflation has not been as soft as desired.  But, some of the high prints for the CPI and PPI could have resulted from one-off start-of-year price hikes.  And, the y/y increase in the Fed's favored Core PCE Deflator Less Shelter remained close to the Fed's 2% target, at 2.2%.  It will be important to see if wage inflation is contained ahead.  Higher unemployment helps, but statutory increases in the Minimum Wage work against it.  A slowdown in housing rent also is critical.  Although Owners' Equivalent Rent fell back to 0.4% m/m in February from January's 0.6%, it is somewhat disconcerting that Primary Rent sped up.  So, it's not clear that the Fed's inflation outlook will work out.  On a positive note, longer-term inflation expectations so far in check, according to the University of Michigan Consumer Sentiment Survey

Aside from the data, there could be a couple of problems for the Fed if it raises its inflation forecast.  They could make its anti-inflation fight more difficult to win.  /1/ Its rationale for cutting rates this year -- that keeping rates steady in the face of falling inflation would raise real interest rates -- could be undermined.  Steady rates with higher inflation would lower real rates -- and boost economic activity.  /2/ It could lift inflation expectations, thereby exacerbating the risk of a wage-price spiral.  These are reasons for the Fed not to raise its inflation forecast at this time.

Fed Chair Powell has indicated patience in achieving the Fed's goal and that a sense inflation is moving in the right direction may be enough to allow for a rate cut.  He may emphasize the need to see weaker economic growth to be comfortable with cutting rates.  Declining commodity prices and bond yields would provide supportive evidence.  They are not happening yet, but important to watch for.