FX.co ★ 50 basis points moves "seem about right" but Fed isn't ruling out 75 basis points moves forever, Mester says

In the United States, Fed officials continue giving speeches. Yesterday alone, Loretta Mester, Thomas Barkin, and John Williams spoke. On Monday, they were Mary Daly and Raphael Bostic. In our view, Cleveland Fed President Loretta Mester's speech was the most interesting and informative. She said that the pace of rate hikes taken by the Fed is neither too fast nor too slow and "seems about right" to her. However, she did not rule out a possibility of a 75 basis points move at one of the future meetings. According to Mester, if inflation is not moving down, the Fed might have to speed up the pace of its rate hikes as its main task is to tame inflation. Unemployment in such a case might increase but this is inevitable as the regulator is determined to reduce inflationary pressure. Mester also hinted that the interest rate might be raised above the neutral level but she could not tell exactly how far above neutral. "We've got to see how the economy plays out in the second half of this year — into next year — to answer that question. We've just got to get this inflation under control," the Cleveland Fed president said. Inflation in the United States is firm at its 40-year high. In April, the reading is estimated to fall by 0.3-0.4%. However, this is unlikely given that the Fed hiked rates just once by 25 basis points in April. This is not enough to make inflation slow down considerably. Moreover, there are other factors driving inflation up.

Judging from Mester's speech, we can once again conclude that the Fed's main goal now is to bring inflation to the 2.0% target. This is a rather difficult task as it could take the regulator at least two years to return the interest rate to the target level. Nevertheless, the Fed would resort to any measures to reach this goal. It remains to be seen what the US central bank would do if the American economy entered a recession and unemployment started to grow. What would be the top priority for the Fed in that case? In our view, the economy would begin to slow down when the interest rate reaches a certain level. Then, the Fed would have to take a break from monetary tightening. This might happen as early as the end of 2022. The forex market might have already priced in rate hikes up to 2.5%. Therefore, each new increase might no longer cause growth in the dollar. At the same time, the stock market is likely to remain bearish throughout 2022.