US Fed could weigh historic 100 basis point rate hike after inflation scorcher

The Fed is more likely than not to raise interest rates by 100 basis points when it meets on July 26 and 27. PHOTO: REUTERS

HOUSTON (BLOOMBERG) - Federal Reserve officials may debate a historic 1 percentage point rate hike later this month after another searing inflation report piled pressure on the US central bank to act.

"Everything is in play," Atlanta Fed president Raphael Bostic told reporters in St Petersburg, Florida, on Wednesday (July 13) after US consumer prices rose a faster-than-forecast 9.1 per cent in the year through June. Asked if that included by raising rates by a full percentage point, he replied "it would mean everything".

The comments added fuel to bets that the Fed is more likely than not to raise interest rates by 100 basis points when it meets on July 26 and 27, which would be the largest increase since the central bank 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.

"I think they have time, if they want, to change that expectation to 100. I don't think they've given us a great reason why they should be going slow here, or being gradual," said chief US economist Michael Feroli at JPMorgan Chase & Co.

"If you do in fact get 100 in July and 75 in September, then I think the growth outlook for later in the year probably deteriorates. Right now I'm inclined to think that the main impact might be to motivate more front loading by the Fed," he said.

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 policymakers to react by scaling up the pace of rate hikes to reinforce their credibility," Nomura economists 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 per cent to 1.75 per cent, 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.

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.

Senior US economist Brett Ryan at Deutsche Bank 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."

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

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

Economists warn that such a fast pace of large increases could push the US into recession. A handful of banks are calling for a contraction starting this year, while others see it starting next year.

"The more aggressive the Fed gets, it's a question of what kind of recession we are going to get," said chief US economist Tom Porcelli at RBC Capital Markets. "It's really easy to make the case that the Fed is going to be just as spooked by this number as they were the last - that's the right way to think about it."

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 on Friday, may provide policymakers with more ammunition to super-size this month's hike.

Inflation expectations are particularly concerning to Mr 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 chief economist Stephen Stanley 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."

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