Policy challenges on the Fed with feopolitical axis

Central banks of advanced economies became active in early 2022 and many either made policy changes or warned markets that policy action is coming in the months and quarters to come.

Policy action plane… Central banks of advanced economies became active in early 2022 and many either made policy changes or warned markets that policy action is coming in the months and quarters to come. With the Fed's strong signal that it plans to start a tightening policy at its meeting on March 15-16, the question after this stage is not whether there will be tightening, but how much and how often. CPI definitely opens the door even more for a 50 basis point hike in March.

 

The phenomenon of energy and inflation… A half-point increase in March was fully priced in. We'll be closely following FOMC members' comments, reports such as the PCE and nonfarm payrolls, to see if a consensus for a 50bps increase has been formed. There will be two other key readings on inflation pressures ahead of the March meeting, including the average hourly earnings in the February jobs report and the February CPI report that could change the short-term outlook for the federal funds rate.

 

The effect of the increase in oil prices… What may happen in the axis of the revival of the oil price with the latest Russian developments has to be taken into account. Because the prices that have calmed down by the end of December tend to leave the band gap and an energy bottleneck that Europe will face due to the Russia-Ukraine crisis or the inflationary effect will be layered in a situation related to price and forward contracts. Therefore, the price projections of WTI and Brent must be included in the inflation assumptions. Forward rates are a little more active with the latest developments. Biden's sanctions are still partial, but there will be a change in dynamics if Russia crosses the currently accepted range of action and moves to the second stage on the Ukrainian field. If energy purchases from Russia are stopped, the effect of energy sanctions seems to be reflected on those who do it more than what is done.

 

Policy creation in central banks… Although the macroeconomic environment poses certain risks, the center of gravity seems to be focused on inflation. At a point where supply bottlenecks continue to push inflation, the impact of new-dimensional energy pricing has the potential to add to the event stemming from the geopolitical crisis. Slow policy transitions or financial support may be required to offset the risk of a hard landing. If the political dynamics do not improve, a worst-case scenario stress test should be done on the axis of what will happen if interest rates increase in this environment.

 

Rate pricing of Fed futures funds… Source: Bloomberg, CME Fedwatch

 

Conclusion? A 50 basis point rate hike in March seems certain with current data and projections. Of course, the possibility of the Fed going over this is at an open-ended point. Here, the degree of concern about inflation is an indicator, but there are problems that will be on the agenda for a while on the axis of the prolongation of geopolitical risks. They have to evaluate the inflation and growth effects of the energy bottleneck together. If the growth risks are to increase due to the prolonged political trouble, it means that the dynamics that led to a drastic interest rate increase will be in trouble. On the other hand, it is useful to take into account that the inflation-related situation will come not only from energy but also from food in the Russian crisis. Because the supply shortage will arise in terms of a very important food indicator such as wheat and it will be reflected in the prices.

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