December FOMC Preview: As the Fed Is Expected to Keep Rates Unchanged This Week, What Should We Focus on ?

Alongside this policy decision Fed officials will release an updated Summary of Economic Projections, which includes its "dot plot" that maps out policymakers' expectations for where interest rates could be headed in the future. Forecasts on inflation, GDP growth, and unemployment will also be released.

While it is widely expected that the Federal Reserve will hold the benchmark interest rate steady at FOMC meeting, the big questions now are about when the Fed can start cutting rates and by how much.

The US economy added 199,000 jobs in November 2023, surpassing the 150,000 added in October and exceeding market expectations of a 180,000 gain, the Labor Department reported last Friday.

Source: U.S. Bureau of Labor Statistics

The unemployment rate declined to 3.7%, compared with the forecast for 3.9%. These signs indicate a strong underlying labor market, suggesting that market expectations of an interest rate cut early next year may be "premature."

After the release of the non-farm payroll report, financial markets lowered their expectations for a rate cut by the Federal Reserve in March, and investors bet that interest rates would remain at the current level for a longer period of time. According to CME FedWatch, traders now believe there is a 43.7% chance of a rate cut in March next year, while the probability of a rate cut in May next year has risen to 75.9%.

Source: CME FedWatch

"It would be premature to conclude with confidence that we have achieved a sufficiently restrictive stance, or to speculate on when policy might ease," Powell said on Dec. 1 in prepared remarks at Spelman College in Atlanta. "We are prepared to tighten policy further if it becomes appropriate to do so."

Meanwhile, WSJ's correspondent Nick Timiraos wrote in his latest article that “Fed officials aren't likely to entertain serious conversations about when to cut rates this week -- and potentially for several months unless the economy weakens more than expected.”

The Consumer Price Index (CPI) — the final reading released in 2023 — showed prices ticked up slightly at 0.1% over last month and rose 3.1% over the prior year in October, a slight deceleration from October's 3.2% annual gain in prices.

Economists had expected prices to come in flat month-over-month and rise 3.1% year-over-year, according to data from Bloomberg.

On a "core" basis, which strips out the more volatile costs of food and gas, prices in November climbed 4.0% over last year — matching the annual increase seen in October. Monthly core prices climbed 0.3%, also matching than October's 0.2% monthly rise.

As the inflation data is released a day before the FOMC meeting, it is certain that the Fed's decision will take this data into consideration. However, data that meets expectations is unlikely to significantly impact the Fed's decision.

The summary of Economic Projections (SEP), which includes the dot plot and forecasts for key economic indicators like GDP, inflation, and unemployment in coming years, will be released at the FOMC meeting.

Nomura expects the dot plot to signal three rate cuts in 2024. Nomura analyst Aichi Amemiya expects the median rate projection for 2024 to decline to 4.625% — consistent with three 25bp cuts next year. This would signify that the Fed are considering cuts as soon as H1 2024. A smaller drop to 4.875% is a risk, and would be a signal that officials are pushing back against market pricing for a quick pivot to rate cuts.

Nomura also expects the summary of economic projections (SEP) in December to show a sharp fall in inflation estimates. The September SEP had a median forecast for 2023 core PCE of 3.7%. This seemed high at the time, and subsequent downside surprises are likely to push this down to 3.4%. There will likely be some carryover into 2024 as well, where Nomura expects the core inflation forecast to drop to 2.4%.

The press gathering for Wednesday's event is expected to direct questions toward Fed Chair Powell, pressing him for answers regarding the central bank's anticipated decrease in interest rates. But JPMorgan chief economist Michael Feroli doesn't think Powell will engage in the rate cutting discussion.

"At the press conference we think Powell will try to move the conversation away from the timing of the first ease by noting that currently the Committee is only considering whether they should stay on hold or tighten policy," Feroli wrote in a note to clients on Friday.

Michael Pearce, lead US economist at Oxford economics, also sees Wednesday's press conference skewing slightly hawkish, indicating a bias from Powell and the Fed to keep interest rates higher for longer.

"We expect the updated economic projections and the post-meeting press conference to push back against the idea that rate cuts could come onto the agenda anytime soon, emphasizing that inflation is still too strong and that risks are to the upside," Pearce wrote in a note to clients on last Thursday.

Analysts at Nomura also expect that Fed Chair Powell's press conference will emphasize optionality and avoid discussing the timing or threshold for interest rate cuts.

Source: Yahoo Finance, Wall Street Journal, Nomura