Interest Rates: Will the Federal Reserve pause, hike, then pause again?

The Federal Reserve could surprise some who were lulled into imagining that interest rates would stop climbing as one rate pause last month surely could signal one move after another by the Fed to hold rates steady.

The Fed playbook, according to some experts, now could very likely turn into: Pause, hike, pause.

Get ready for one more rate hit — the 11th interest rate hike since March 2022 — when the Fed announces its decision on rates on Wednesday.

Bill Adams, chief economist for Comerica Bank, expects the Federal Reserve to raise the federal funds rate by a quarter of a percentage point. If we see such a modest rate hike, the federal funds would end up in a target range of 5.25% to 5.5%.

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Inflation is cooling down but not enough for the Fed

The Fed had been raising rates at each meeting since March 2022 and paused for the first time in June. In a note to investors, Adams indicated that he expects the Fed will signal Wednesday that another “skip” or pause is likely at its meeting on Sept. 19 and Sept. 20.

The Fed's rapid-fire rate hikes contributed to inflation finally slowing down significantly in June, exactly a year after spiking at 9.1% in June 2022, the highest level in 40 years.

Inflation rose 3% year-over-year in June, according to data released by the U.S. Bureau of Labor Statistics on July 12. It was the smallest year-over-year increase since March 2021.

The consumer price index increased 4% year-over-year in May.

On a monthly basis, inflation rose 0.2% in June. Consumers saw prices for food at home remain the same, while prices for food at restaurants and away from home rose 0.4% in June. Prices for airline tickets, used cars and trucks, and household furniture dropped, contributing to the cool down in inflation.

Used vehicle prices, for example, were down 5.2% year-over-year in June.

A Fed rate hike could be in the cards this week, Adams said, because core inflation, which excludes food and energy, remains relatively high.

The Fed, he said, will likely signal that some additional interest rate hikes could be "warranted in the second half of 2023 unless inflation and wage growth slow materially."

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Fed's wording will be key on Wednesday

Diane Swonk, chief economist at KPMG, said that Federal Reserve Chairman Jerome Powell has "effectively corralled the cats and stopped dissents" among some members of the Fed's policy committee when it comes to battling inflation with more rate hikes. She too expects what she dubs "another hawkish hike" on Wednesday.

Swonk wrote in a report issued Monday: "Austan Goolsbee of the Chicago Fed has been clear that he believes the Fed should be done and could dissent but has been reluctant to actually pull that trigger. He is not alone. Raphael Bostic of the Atlanta Fed has voiced his desire to pause for longer; it would be a victory for Powell to get another unanimous vote.

"The Fed is likely to feel emboldened to go all the way to get inflation back to its 2% target."

The Fed continues to walk a fine line between raising interest rates just enough to engineer a soft landing and raising rates too much to drive the economy into a serious slump.

But Swonk stated that a soft landing, or mild economic slowdown, looks more achievable and current economic conditions give the Fed less reason to worry about the tradeoffs involving higher unemployment and fighting the last legs of inflation.

Swonk said the Fed doesn't want to be "head-faked by the recent deceleration in inflation and declare victory too soon."

Contact personal finance columnist Susan Tompor: [email protected]. Follow her on Twitter @tompor.