Let's work backwards from expectations.
Here in September 2022, the Bank of New York's consumer inflation expectations survey indicated that people think inflation will be 5.7% a year from now, down dramatically from 6.8% in June.
https://tradingeconomics.com/united-states/inflation-expectations or
https://www.newyorkfed.org/microeconomics/topics/inflationThis is another data point to make the case that the inflation phase of panic is over, and we are moving on into the recession phase. If we suppose the survey respondents are 100% correct we can chart what the trailing-twelve-month CPI will look like between now and next September, and consider the implications for rate hikes / rate cuts. This simulation assumes a recession does not hit in the next 12 months. The recession might not start within 12 months given the historical lag between inversions or rate hikes and the onset of recession!
I added the CPI index values to a spreadsheet and solved for the flat monthly percent change that would equal an annualized 5.7% increase from here. The solution, which would lead to the forecast number, is roughly 0.465% per month. If the CPI index grew that much each month, annualized CPI would be 5.7% next September (i.e. 0.465%/mo
is roughly 5.7%/yr).
Here's what that would look like on a month-to-month basis:
Based on Consumer ExpectationsDate CPI MoM chg Annual chg2022-09-01 296.99 0.465% 8.31%
2022-10-01 298.38 0.465% 7.88%
2022-11-01 299.76 0.465% 7.63%
2022-12-01 301.16 0.465% 7.51%
2023-01-01 302.56 0.465% 7.32%
2023-02-01 303.96 0.465% 6.96%
2023-03-01 305.38 0.465% 6.14%
2023-04-01 306.80 0.465% 6.28%
2023-05-01 308.22 0.465% 5.75%
2023-06-01 309.66 0.465% 4.85%
2023-07-01 311.10 0.465% 5.36%
2023-08-01 312.54 0.465% 5.72%
2023-09-01 314.00 0.465% 5.72%
2023-10-01 315.46 0.465% 5.72%
2023-11-01 316.92 0.465% 5.72%
2023-12-01 318.40 0.465% 5.72%
Now the question is, in this no-recession scenario, in which of these months does the FOMC decide to stop raising rates? Where is it first defensible to stop the hikes?
The obvious caveat is the consumers know next to nothing about inflation. An estimate from the smart money would involve "a model that uses Treasury yields, inflation data, inflation swaps, and survey-based measures of inflation expectations." FRED publishes this metric and it is currently 4.17%:
https://fred.stlouisfed.org/series/EXPINF1YRBased on 1 Year Market Inflation ExpectationsDate CPI MoM chg Annual chg2022-08-01 295.620 0.12% 8.25%
2022-09-01 296.63 0.341% 8.17%
2022-10-01 297.64 0.341% 7.61%
2022-11-01 298.65 0.341% 7.23%
2022-12-01 299.67 0.341% 6.98%
2023-01-01 300.69 0.341% 6.65%
2023-02-01 301.72 0.341% 6.17%
2023-03-01 302.75 0.341% 5.23%
2023-04-01 303.78 0.341% 5.24%
2023-05-01 304.82 0.341% 4.58%
2023-06-01 305.86 0.341% 3.57%
2023-07-01 306.90 0.341% 3.94%
2023-08-01 307.95 0.341% 4.17%
2023-09-01 309.00 0.341% 4.17%
If this is how it turns out, I can imagine the FOMC tapering its rate hikes down to 0.25% by about March. I'm guessing the FOMC's first opportunity to make a "hold and wait" decision would be in about June or July.
Possible future FFRs:Sept: 3.25%
Nov: 4% (+0.75%)
Dec: 4.5% (+0.5%)
Feb: 5% (+0.5%)
Mar: 5.25% (+0.25%)
May: 5.5% (+0.25%)
Jun: 5.5% (hold)
Jul: 5.5% (hold)
The CME futures markets assigns 0.2% odds to this terminal rate.
https://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.htmlAs we can see, if the FOMC takes a break in June according to this scenario, the FFR would have been higher than CPI for only a month or two. We might even have a positive yield curve by then, which is one of the things Powell said the FOMC is looking for.
In the broader picture, this 4%+ drop in inflation within a year would rank among the biggest moves since 2008, which was itself the biggest drop since 1982-83. Similarly, a hike from 0.25% to 5.5% would exceed the magnitude of the +4.25% 2004-06 campaign. We haven't seen +5.25% of rate hikes in a single campaign since 1980-81.
The economy is a lot more "financialized" now than it was in the early 80's, which could lead to unexpected results, as it did in 2008. Also, equities are more priced for growth now than they were then (the S&P500's PE ratio was around 7.4 back in 1980, vs. 18.5 now) and there is more retail participation - even "apes", and far fewer barriers to panic selling!
The ride is guaranteed bumpy from here, and the opportunities will be great when there's blood in the streets and panic in the headlines.