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Remarks from various Fed members on the pace of tightening gave hope to those traders looking for a more dovish Fed going forward With the fed funds interval reaching 4% next week, there will, of course, be a discussion about future rate hikes.

This has been well-telegraphed by the Fed over the last few months. For example, Fed chair Jerome Powell noted at the July press conference that - “As the stance of monetary policy tightens further, it likely will become appropriate to slow the pace of increases”.

The Fed though is prepared to resist the temptation of easing policy in the light of weaker data - In the words of Powell at Jackson Hole:

“Reducing inflation is likely to require a sustained period of below-trend growth... maintaining a restrictive policy stance for some time”.

The inflation charts below show inflation is strong and beating forecasts and fighting inflation is the number one priority - we expect 75 bps as a hike, future hikes will depend on incoming data and the Fed message to be hawkish.

The Fed will not want a repeat of the error made at the July meeting when rates fell and equities moved sharply to the upside. We now have the same scenario again and the Fed will want to cool bullish stock traders and send equities down. The fight against inflation is far from over, and the Fed still needs markets to understand this.

In terms of inflation data its been beating forecasts in recent months and wage inflation remains strong – the Fed’s priority is to bring wage inflation down:

Last week the Employment Cost Index (ECI) which Powell highlighted almost a year ago as a major factor in terms of bringing overall inflation down. The ECI printed +1.2% QoQ, the same as Q1 (but less than the +1.3% QoQ expected). This left ECI +5.0% YoY...A small tick down is not going to make the Fed change its hawkish stance.


Wages won't be coming down with the high number of vacancies v people seeking jobs and wage inflation is fueling overall inflation as businesses pass on the cost of higher wages to consumers.


The market doesn't like it but this is the way to tame inflation is: "2023 will be the year that this monster tightening finally reaches the economy and kills profits, jobs, and the wage inflation that has so far refused to die." (Bank of America)


Inflation remains broad-based and despite Fed hikes, the economy has been holding up ok which means the Fed can continue to tighten rates as we can see on the chart below.


The market is seeing a far lower peak in rates than JP Morgan whose chart is below and also the Fed - this is despite no big move down in inflation and we think the market view is wrong.


Why Does the Market See the Fed Hiking Less Than Other Central Banks? We can see this on the chart below but the US has a stronger economy above to take higher rates - there is no reason for them to pause. The idea other central banks with weaker economies will hike more doesn't add up in our view - the market is simply hoping for a Fed dovish pivot.


In Addition to the Fed remaining hawkish they are engaged in quantitative tightening and reducing their balance sheet which is the equivalent of a rate hike of around 2% and this week they have speeded up the pace of QT:


Technical Analysis 

We see no big dovish pivot and on the monthly chart we have an accelerated up trend and expect the USD to only have shallow pullbacks - target 120.00. On the daily chart, we can see we have bounced from the 50-day moving average and expect a move back to the top of the channel.




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