Federal Reserve: Is a likely October hold set to precede an expected December hike? - ABN AMRO

A pause in Federal Reserve (Fed) rate increases remains ABN AMRO’s expectation this week, with Rogier Quaedvlieg forecasting an unchanged rate of 3.75–4.00% despite recent upside surprises in inflation. In his assessment, narrowing inflation breadth and a cooling US labour market allow policymakers to wait. The bank continues to project one final 25bp increase in December, after which it expects rates to remain on hold for an extended period.

Will the Fed Pause Before One Final Rate Hike?

"We expect the Fed to leave the policy rate unchanged at 3.75-4.00% on Wednesday. The decision is more finely balanced than market pricing suggests. Inflation has surprised to the upside for a second month, but declining inflation breadth and a cooling labour market give the Fed room to wait. We therefore expect the Fed to pause in October before delivering a final 25bp hike in December."

"The report is unlikely to have given the Fed confidence that inflation is returning sustainably to 2%. The concern is less the initial energy shock, which monetary policy cannot prevent, than its potential propagation. Persistent input-cost increases raise the risk that firms pass these costs on to consumers and, ultimately, that higher inflation feeds into wages. Restrictive policy provides insurance against those second-round effects. Still, there are reasons not to overreact to two hot prints. Inflation breadth continues to improve, suggesting that the recent acceleration has not yet developed into a generalised inflation process. Moreover, some of the factors currently boosting PCE inflation look set to fade, particularly the unusually large contribution from software and, somewhat later, memory chips. We therefore expect underlying inflation to resume its decline next year, even if near-term readings remain uncomfortable."

"Combined with the recent softer PCE readings, the labour data remove much of the pressure to hike immediately. The Fed can afford another six weeks to assess whether the latest inflation strength represents persistent pressure or another temporary bump."

"The mix of persistent near-term inflation risk and a cooling labour market argues for patience rather than complacency. We expect the Fed to hold in October, deliver one final 25bp hike in December, and then keep rates unchanged for an extended period."

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