Federal Reserve Expected to Hike Interest Rates by 25 Basis Points While Markets Await Dot Plot Update

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Federal Reserve Expected to Hike Interest Rates by 25 Basis Points While Markets Await Dot Plot Update

The Federal Reserve is expected to increase interest rates by 25 basis points to 4.75%-5% on Wednesday, March 22. The decision is already largely priced in, but the market is waiting to react to the revised Summary of Economic Projections (SEP), known as the dot plot, and Federal Reserve Chairman Jerome Powell's press conference regarding future policy actions. The market is currently pricing in only a 16% chance of the Fed leaving its policy rate unchanged at the range of 4.5%-4.75%.

Investors are still forecasting a 25 bps rate increase amid easing fears over a deepening liquidity crisis following the quick measures taken by the Fed. This, along with a positive development surrounding the Credit Suisse saga, suggests that the Fed could stay focused on battling inflation. Nevertheless, the terminal rate projection in the dot plot and Fed President Jerome Powell’s comments on the policy outlook and the market turmoil will provide fresh clues regarding potential future policy steps.

The Federal Reserve has to find a balance between addressing inflation pressures and banking troubles. Inflation remains a major problem for the Fed, and a pick-up in volatility going into the meeting could force a pause. The FOMC will debate the suitable course of action given recent developments, and the Fed will stress that future rate decisions will depend on both the data and the functioning of the financial system.

Jerome Powell will have to respond to tough questions on the state of the banking sector. His communication on how the Fed plans to continue to tame inflation while reassuring that the Silicon Valley Bank and Signature Bank turmoil will remain contained will impact the action in US Treasury bond yields and the US dollar’s performance against its major rivals. Powell could tie the bank's next moves to jobs data rather than solely banks vs. inflation.

After the initial reaction, the focus will shift to interest rate projections. The Fed will likely stick to its guns about refusing to slash borrowing costs this year. By signaling rates will near 5.50%, the Fed would continue conveying a message of confidence. It could offer a token reduction of its projections for 2024 and 2025, but markets do not look that far.

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