MNI FED WATCH: On Hold, But Open To One More

The Federal Reserve is set to hold benchmark interest rates steady at a 5.25%-5.5% range next week as it takes some more time to decide whether a final quarter-point increase will be needed.

Most officials projected in June that two more rate hikes were necessary, and the FOMC delivered one of those in July. Since then, growth has surprised to the upside with the Atlanta Fed GDP nowcast showing 4.9% for the third quarter, well above the FOMC's projection of a 1% annual rate for the fourth quarter. Meanwhile, inflation has eased and is on track to better the FOMC's June estimates slightly by year-end, while the labor market has stayed strong and the jobless rate lower than projected.

An updated set of projections will likely continue to show a split over whether the Fed should hike again in November or December and a range of opinions over how quickly to trim rates next year as inflation falls.

"Now is the time when differences in inflation forecasts and economy are going to widen and the resulting uncertainty over the path of policy will also likely grow," former Dallas Fed executive vice president and senior adviser Joe Tracy said in an interview.

HIGHER FOR LONGER

Some officials would rather hold the fed funds rate constant for a bit longer to get to the inflation objective, instead of hiking once again and having to reverse course quickly if the economy falls into recession.

Weakness in China and Europe, as well as dwindling household savings and the lagged effects of past rate increases are set to slow demand further, they argue. Ten-year Treasury yields' hitting their highest in over a decade this month also helped do the Fed's work of raising borrowing costs.

"We can hold steady for a while because we are clearly in a restrictive stance in my view. We can sit here for a while, let monetary policy continue to do its work," Philadelphia Fed President Patrick Harker told MNI at last month's Jackson Hole symposium.

STAYING VIGILANT

Other officials want the Fed to stay tough on tightening policy as much as necessary, given that the longer higher inflation persists, the greater the risk that inflation expectations begin to rise, making the job of monetary policy harder in the long run.

Robust growth in the economy and employment means officials must keep their options open, former IMF chief economist Maurice Obstfeld told MNI last month.

The last mile on "supercore" services inflation may be harder to unwind, San Francisco Fed research director Sylvain Leduc told MNI, and the more growth accelerates, the more upside risk to inflation, former Fed Vice Chair Don Kohn said in an interview.

"Additional evidence of persistently above-trend growth could put further progress on inflation at risk and could warrant further tightening of monetary policy," Fed Chair Jerome Powell said at Jackson Hole.

So while the odds of a soft landing appear to have improved considerably this year, the Fed may have no choice but to resume hiking rates.