Federal Reserve Chairman Jerome Powell has made it abundantly clear that the Fed may – or may not ─ boost interest rates again in September.
“I would say it’s certainly possible we will raise funds again at the September (Federal Open Market Committee - FOMC) meeting if the data warranted,” Powell told reporters after the July Federal Open Market Committee (FOMC) meeting, when the committee increased the Fed’s benchmark rate by a quarter of a point, to a range of 5.25 percent to 5.5 percent. “I would also say it’s possible that we would choose to hold steady. We’re going to be making careful assessments, meeting by meeting,” he added “We’ve come a long way. And given how far we’ve come, we can afford to be a little patient, as well as resolute, as we let this unfold.”
Breathing Room
The ambiguity gives the Fed some breathing room to assess whether the 11 rate hikes imposed since March of 2022, when the benchmark rate was near zero, have done enough to tame inflation, or whether further increases will be needed to prevent inflationary expectations from becoming embedded in the minds of business executives, workers, and consumers.
Several reports indicating that inflationary pressures may be easing had led some analysts to predict that the Fed would forgo a rate hike in July, as it had done in June. But the FOMC did not oblige, concluding that while consumer prices (measured by the Personal Consumption Expenditures price index) are rising more slowly, the annual inflation rate – 3 percent in June compared with 3.8 percent in May ─is still above the Fed’s 2 percent target rate.
Labor Market Concerns
Fed officials also remain concerned about the labor market. Employment gains and wage growth have both moderated, since January, but employers still added 187,000 workers to their payrolls in July, slightly below the 200,000 gain analysts had expected, but a bit above the downwardly revised 185,000 total for June. The unemployment rate fell to 3.8percent – close to a 50-year low.
Job openings, another measure of labor market strength, have declined from the peak of more than 12 million in March of last year, reflecting what Jason Furman, former chair of the White House Council of Economic Advisers, termed the “immaculate cooling” of the labor market. An indicator, he said, that the Fed may be succeeding in cooling inflation without tipping the economy into a recession.
The 2 percent annual increase in gross domestic product (GDP) reported for the first quarter provides additional evidence of the “soft landing” the Fed is trying to achieve.
Recession Fears Abating
Many analysts who had viewed a recession as inevitable have now lowered their assessment of that risk. In a recent Wall Street Journal poll of academic and business economists, those risks had declined from 61 percent in the previous two surveys to 54 percent. Fed economists, who had been predicting “a mild recession” have also downgraded their forecast to a “noticeable slowdown.”
“A happy outcome that not long ago seemed like wishful thinking now looks more likely than not, economist Paul Krugman, a New York Times columnist, wrote recently.
What changed? “The things we were all freaked out about earlier this year all went away,” Michael Gapen, chief U.S. economist at Bank of America, explained in an interview with the Times.
That optimistic view is not unanimous. Economists who are still predicting a recession say the low inflation readings are distorted because they omit food and fuel costs; the core inflation rate, including those components, is actually closer to 5 percent than 3 percent, they contend.
“The Fed should not stop raising rates until there is clear evidence that core inflation is on a path to its 2 percent target,” Michael Strain at the American Enterprise Institute, wrote in a recent commentary. “That evidence does not exist today, and it probably will not exist by the time the Fed meets in September,” suggesting to him that another rate increase is likely.
Housing: A Weak Link
The weakest link in the optimistic forecasts is probably the housing market, which has been struggling against stiff headwinds created by rising interest rates, scant housing inventories and elevated home prices that remain high, despite the first two factors, which should be pushing them down.
Mortgage rates, now approaching 7 percent, are cutting in two ways –reducing affordability for would-be buyers and tethering existing homeowners to lower-rate mortgages that are keeping them in homes they would otherwise be inclined to sell, depriving the market of inventory it needs and keeping upward pressure on home prices
Although there are fewer buyer in the market, they are competing intensely for the reduced supply of available homes, creating a market that one analyst said, “feels hot even though there are few homes changing hands.”
Only 1 percent of existing homes have been sold this year – the lowest share in a decade, Redfin reports. Existing home sales in June were running almost 19 percent below the year-ago level. Although pending sales, a marker for future transactions, improved slightly in June – by less than 1 percent compared with May ─ year-over-year transactions fell by more than 15 percent, and listings for July were almost half of what they were before the pandemic.
The median list price declined slightly (by less than one percent) for the second consecutive month, but that doesn’t represent the beginning of a significant downward trend, Denise Hale, chief economist for Realtor.com noted in a recent commentary. Even a small decline is good news for affordability-stretched buyers, she agreed, but “the ongoing lack of homes for sale continues to prop up home prices and will keep declines relatively modest for the remainder of the year,” she predicted.
New Construction
New construction would boost the supply, but housing starts declined in June, after an unexpected and outsized May jump; building permits for the month were more than 15 percent the year-ago rate, as builders, like prospective buyers, struggle with higher rates.
Lower rates would ease the inventory problem by encouraging more owners to sell, but a recent Zillow survey suggests that rates would have to fall significantly to have a major impact. In that survey, owners with rates below 5 percent were half as likely to say they were planning to sell compared with buyers with rates above that level. And Zillow estimates that approximately 80 percent of current mortgage holders have rates below 5 percent.
“We expect mortgage rates may notch down slightly as inflation comes under control,” Orphe Divounguy, a senior economist at Zillow Home Loans wrote in a recent report. “But they are unlikely to return to 5 percent in the near future.”
