IMPORTANT POINTS
Inflation is high, and the Federal Reserve is anticipated to begin combating it next week with a quarter-point rate increase.
The February CPI was a scorching 7.9 percent. According to one expert, consumer inflation might reach 9% or more in March.
Rising oil prices have exacerbated the Fed’s inflation dilemma, and they may eventually play a significant role in deciding the economy’s and interest rates’ destiny.

As the Federal Reserve prepares to boost interest rates, inflation shows no signs of abating.

February’s consumer price index increased 7.9 percent year over year, the highest level since January 1982 and slightly above the 7.8 percent forecast by Dow Jones. The increase was driven by broad-based price increases in consumers’ fundamental requirements — food, gasoline, and shelter — and comes as Russia’s confrontation with Ukraine forces energy costs higher. Some analysts predict that inflation will continue to grow in the future.

The Fed is expected to raise interest rates for the first time next week to keep inflation under control before it becomes out of control, despite the uncertainty surrounding the conflict. To combat the epidemic, the Fed cut its fed funds target rate to zero in early 2020.

However, the central bank faces the possibility that higher interest rates and high inflation — notably from rising energy costs — may drag GDP. This implies the central bank may have to decrease its pace of rate hikes to avert a recession.

Economists anticipate the Fed raising interest rates seven times this year. Traders in the futures market were betting Thursday on around six quarter-point increases. That might change after investors see what the Federal Reserve’s policymakers expect for interest rates when they reveal their newest economic estimates following Wednesday’s policy meeting.
Twenty-five basis points is a ‘no-brainer.’
The first-rate rise by the Federal Reserve is likely to be a quarter-point or 25 basis points. Each basis point is equivalent to 0.01 percent.

“25 basis points next week seems to be a virtual certainty,” Michael Schumacher, director of rates strategy at Wells Fargo, said. “The Fed is in a pickle. It’s becoming more difficult by the day. It’s difficult at any time, but it’s extremely difficult when you have huge inflation, and we’ve had supply chain problems for a long period, which have been compounded by Russia-Ukraine.”

The yield on the US 10-year Treasury note, keenly tracked, increased to 2% on Thursday. This yield is essential since it affects mortgages and other consumer and corporate loans for GAD / $100-$1000. Simultaneously, stocks fell.

“You do not see the conventional risk-averse response. “Equities are driven by concerns about Ukraine, while bonds are driven by inflation and Federal Reserve forecasts,” Schumacher said. Bond yields move in the opposite direction of price.

Meanwhile, according to AAA, gasoline prices have increased by approximately 60 cents per gallon in the last week to an average of $4.31 nationwide. Although oil has fallen from its recent highs, it is still trading much over $100 a barrel.

Other commodities such as wheat, palladium, and nickel have moved. Russia is a significant commodity exporter, and the US and its allies’ sanctions on its banking sector have raised fears about supply shortages.

Even before the Ukraine crisis increased the price of oil and raw materials, the Fed was under pressure to hike interest rates. Supply chain problems contributed to price increases, while a robust US economy with steady growth and a healthy labor market exacerbated pricing pressures.

Economists have reduced their forecasts for US growth marginally, but they do not anticipate a recession this year. The CNBC Rapid Update polled economists, who predicted an average growth rate of 3.2 percent for 2022, down 0.3 percent from their February projection.

With a strong demand side, I believe the Fed is trapped. Schumacher said that the Fed focuses on fundamentals, but food prices rose 1% last month. The energy was the primary driver of price increases, rising 3.5 percent in February and accounting for over a third of the headline increase.

Housing, which includes rent, increased by 0.5 percent, resulting in an annualized rise of 4.7 percent, the highest rate since May 1991.

Inflation among consumers in February was 6.4% higher than a year earlier, excluding the cost of food and energy.

“March CPI will show a significant 1-2 percent MoM rise in a rise in the overall consumer price index, with some stronger-than-normal pass-through of energy costs to core inflation in components such as transportation services,” Citigroup analysts wrote. “The next CPI data will occur shortly before the May FOMC meeting, at which we anticipate a 50 basis point rate rise.”

Numerous experts anticipate the Fed to maintain its quarter-point rate rise pace. However, Citi analysts believe the Fed might rise by 50 basis points to the expected good March employment data at its May meeting. Although inflation was predicted to peak in March, increasing oil prices might ensure that prices continue to rise.
Economic dynamism
“We entered this with a great deal of momentum. “Excessive oil prices do not usually trigger recessions,” Grant Thornton chief economist Alaine Kern said. “The Fed has to hedge against other concerns. That is, inflation expectations have been increasing in recent years. The Fed must consider this inflation as entrenched as it was in the 1970s. They are doing everything possible to avert it.”

According to Kern, the Fed has already fallen behind and needs to boost rates. She projected that the headline CPI would easily hit 9% in the spring before beginning to decline.

Economists are concerned about rising oil costs because they ripple through the economy, ultimately hitting the consumer at the petrol pump. The high prices also increase the cost of inputs such as chemicals, fertilizers, plastics, and construction materials. They are also a drag on the transportation industry since they increase the price of diesel and jet fuel.

In other words, oil prices might significantly influence Fed policy. Oil prices aren’t expected to rise much anytime soon, but economists aren’t ruling out a more significant increase.

“I believe that if oil reached $150 and there was a data anomaly somewhere, they would forego May for an increase,” Barclays senior US economist Vince Curran said. “They’re probably assuming we’re witnessing a decline in demand.”
What might bring the Fed to a halt
Stagflation fears have seeped into the market.

“There is no doubt that stagflation has an effect. Stagflation is defined as an increase in both inflation and unemployment. That, I believe, is improbable at the moment. It is, without a doubt, plausible. “There is no doubt that stagflation has an effect,” Curran said. “You would need an expansion of the conflict beyond its existing setting. Perhaps this sends Europe into recession, and it would be difficult for us to avoid recession.”

Curran said that the Fed’s data would have to worsen to pause its rate rises. He anticipates five rate rises this year, and the Fed is expected to begin shrinking its approximately $9 trillion balance sheet this year, another tightening measure.

Kern said that the job outlook is favorable. February’s employment growth of 678,000 was very high, and the labor market continues to strengthen.

There are, however, other concerns that might derail the Fed’s path toward rate normalization.

Kern said that if financial circumstances deteriorated further, with equities falling precipitously and credit markets freezing up, the Fed might halt. There are currently no indicators of significant financial market stress due to the Russian-Ukrainian dispute.

“What would deter the Fed is if there was a genuine bleed into credit markets. In some ways, this exacerbates inflation and makes it much more difficult to recover from a financial crisis. That is why the Fed is on a precarious precipice,” she said.

“They could not have done a better job of broadcasting this,” she said. “David Rector said that on March 16, By raising rates by a quarter of a percentage point, we would do so. That was about as direct as one could get. They’re on the case. They do not want for the event to be a surprise.”

Kern said that it is unclear what the Federal Reserve would anticipate for future rate rises. “However, they must include the proviso that we will be closely monitoring financial markets,” she said.