These Data Show Why The Fed Doesn't Have To Hike Aggressively

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Consumer prices rose 0.4% in November and 2.2% from a year ago, as expected, lifted by a rise in energy prices, the Labor Department reported on Wednesday.

[ibd-display-video id=3020793 width=50 float=left autostart=true] The core consumer price index, excluding food and energy, rose 0.1%, while the annual rate of inflation ticked down to 1.7%.

Wall Street expected the core CPI to rise 0.2% on the month and a steady 1.8% from a year ago.

After the report, S&P 500 and Dow Jones industrial average futures moved a bit higher on the stock market today , while the 10-year Treasury yield fell.

The Federal Reserve is a lock to announce a quarter-point hike to its key overnight lending rate at 2 p.m. ET, sticking with its original plan of three hikes in 2017. Inflation will have to pick up from here for the Fed to continue hiking at its current pace, much less raise rates an accelerated pace in 2018, as some are expecting. The CPI data c ast some doubt on that outlook and may encourage the Fed to be patient.

Prices for food consumed at home, which fell in August as ( AMZN ) closed its Whole Foods acquisition by slashing some prices and were flat in September and October, slipped 0.1% amid a new round of price cuts in November.

Prices of medical commodities, such as prescription drugs, rose 0.6% on the month and were up 1.8% from a year ago, a historically tame rise that has helped curtail overall inflation. CVS Health ( CVS ) said in a November earnings call that pharmacy same-store sales fell 3.4% in the third quarter, dragged down by generic drug introductions. The profit squeeze on both its retail business and prescription benefit management unit, along with the looming threat of competition from Amazon, is behind CVS' acquisition of Aetna ( AET ).

Apparel prices fell 1.3% in November, the biggest monthly drop since 1998. The 1.6% annual drop was the most in two years.

As the Fed meets, the key question is whether policymakers expect the injection of tax stimulus to make the economy run hot enough next year that an additional rate hike will be needed.

Policymakers' quarterly projections in September signaled three rate hikes in 2018, when tax-cut prospects looked dubious. But Goldman Sachs and some other Wall Street firms are now predicting four quarter-point rate hikes next year, now that tax cuts are on the verge of passage, and we'll find out on Wednesday at 2 p.m. ET if a majority of Fed committee members share that view. Five of 16 policymakers projected four rate hikes next year, so another handful would have to make a hawkish shift to move the needle.

Because the GOP has few votes to spare and complications could still arise, Fed policymakers may hold off factoring in the impact of tax cuts.

At least in the short term, a signal from the Fed that four hikes are on the way is likely to be negative news for markets, particularly for banks. Net interest margins of Bank of America ( BAC ), JPMorgan Chase ( JPM ) and the rest of the banking sector are pinched when the gap between short-term interest rates and long-term rates narrows, and that's what happens when markets worry that the Fed is being too aggressive in raising rates.

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Shares of Bank of America and JPMorgan rose more than 1% on Tuesday amid signs of optimism from the GOP that its tax bill would come to a vote next week.

Hawkish Fed signals could further flatten the yield curve at a time when the gap between the 2-year and 10-year Treasury yield is already close to its narrowest point since shortly before the 2007 recession began.

Yet while UBS sees the Fed hiking four times in 2018, the firm doesn't think that outcome is any reason for alarm. To the contrary, it has a bullish view for both the stock market and the economy. The key is that UBS expects the Fed to be done hiking rates at the end of 2018, when the Fed's overnight lending rate would be 2.375%. By comparison, Fed policymakers projected that rates would ultimately rise to 2.7% in September and 2.9% back in June.

The thinking is that an acceleration in economic growth courtesy of tax cuts and a favorable global economic backdrop could speed up the Fed's timetable but only a modest pickup in inflation will allow policymakers to stand pat after that.


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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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