Fed Could Weigh Historic 100 Basis-Point Hike After Inflation Scorcher

(Bloomberg) -- Federal Reserve officials may debate a historic one percentage-point rate hike later this month after another searing inflation report piled pressure on the central bank to act.

“Everything is in play,” Atlanta Fed President Raphael Bostic told reporters in St. Petersburg, Florida, on Wednesday after US consumer prices rose a faster-than-forecast 9.1% in the year through June. Asked if that included raising rates by a full percentage point, he replied, “it would mean everything.

Investors bet that the Fed is more likely than not to raise interest rates by 100 basis points when it meets July 26-27, which would be the largest increase since the Fed started directly using overnight interest rates to conduct monetary policy in the early 1990s. Americans are furious over high prices, and critics blame the Fed for its initial slow response.

Cleveland Fed President Loretta Mester, speaking Wednesday evening in an interview on Bloomberg Television, declined to say if she favored going bigger at the July meeting, noting there were important data releases between now and then. But she said there was “no reason” for raising rates by less than the 75 basis points that policy makers delivered last month.

“What I take from the report, and it was uniformly bad -- there was no good news in that report at all -- is that inflation remains at an unacceptably high level,” she said. “We at the Fed have to be very deliberate and intentional about continuing on this path of raising our interest rate until we get and see convincing evidence that inflation has turned a corner.”

San Francisco Fed chief Mary Daly, speaking in a separate interview with the New York Times late Wednesday, said that “My most likely posture is 0.75, because of the data I’ve seen,” adding that she had expected the CPI number to be high: “I saw that data and thought: This isn’t good news. Wasn’t expecting good news.”

The Fed has turned aggressively against inflation, after being blamed for its initially slow response, roiling financial markets and increasing the risk that its actions could tip the US economy into recession. Both Bostic and Mester pushed back against the idea of a trade-off between inflation and employment, arguing that they had to deliver price stability, even if that hurts the labor market.

What Bloomberg Economics Says...

“The Fed is right to worry about the unmooring of inflation expectations -- and this report raises the chance of an even larger rate hike than 75 basis points down the line.”

-- Anna Wong and Andrew Husby, economists

For the full note, click here

Given the acceleration in monthly inflation, economists at Nomura Securities International now expect a full percentage-point increase in the Fed’s benchmark rate at the upcoming policy meeting.

“Incoming data suggests the Fed’s inflation problem has worsened, and we expect policy makers to react by scaling up the pace of rate hikes to reinforce their credibility,” Nomura’s Aichi Amemiya, Robert Dent and Jacob Meyer, said in a note.

Fed Chair Jerome Powell told reporters last month after the central bank raised rates by 75 basis points, to a range of 1.5% to 1.75%, that either a 50 or 75 basis-point increase was likely in July. A majority of his colleagues since then have either echoed his line or endorsed the bigger move.

Fed Governor Christopher Waller is scheduled to speak on Thursday, while Bostic and his St. Louis colleague James Bullard both have events on Friday. After that officials enter their pre-meeting blackout period.

Global Tightening

Central banks globally are confronting unprecedented inflation, prompting historic rate hikes from Hungary to Pakistan. The Bank of Canada on Wednesday increased rates by a surprise full percentage point amid fears that decades-high price pressures are becoming entrenched.

Brett Ryan, senior US economist at Deutsche Bank AG, said it made sense to price in some risk of a larger Fed move, but saw it as unlikely without explicit communication from the central bank.

“The hawks had to have agreed to the guidance of 50 to 75, with the understanding that if we got an upside print, 75 would be the number,” he said. “They have time to communicate if they want to put that message out there.”

The US central bank has pivoted to aggressive policy tightening to confront the highest inflation in 40 years. They raised rates by 75 basis points last month -- the largest increase since 1994 -- despite previously signaling that they were on track for a smaller half-point move.

“You have to put 100 on the table for July,” said Andrew Hollenhorst, Citigroup chief US economist. “Everybody should be quite cautious about calling peak inflation -- a few months ago the peak was supposed to be 8.3%.”

Fed officials have said they want to push policy into restrictive territory, to a range of 3.25 to 3.5% by the end of this year, according to the median projection from the quarterly economic projections released in June. Futures markets Wednesday showed investors pricing in an even higher 3.5% to 3.75% range by year end.

The Fed’s abrupt change to a 75 basis-point increase last month came on the back of a preliminary survey showing consumer expectations for future inflation were rising. 

Subsequent updates to the data, which came after the Fed’s meeting, erased most of that uptick, but preliminary July figures, expected Friday, may provide policy makers with more ammunition to super-size this month’s hike.

Inflation expectations are particularly concerning to Powell and his colleagues, who are trying to avoid a 1970s-style price spiral.

“After what happened in June, I do not rule anything out,’ said Stephen Stanley, chief economist at Amherst Pierpont Securities. “I had been thinking that the Fed would decelerate to a 50-basis-point-per-meeting pace beginning in September, but if the next two monthly inflation numbers look like May’s and June’s, all bets are off.”

(Updates with Daly comment in sixth paragraph.)

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