2 reasons why the Fed might hike by 75bp tomorrow

As we get closer to the all-important Fed meeting scheduled for tomorrow, the market leans towards a surprise from the Fed. Until this week, the Fed’s message was clear – it would hike the interest rate by 50bp at each of the two meetings scheduled during the summer.

But that might already be history. According to multiple reports from the financial press after the upside surprise in the May CPI report, the Fed is likely to increase the funds rate by 75bp tomorrow.

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Moreover, some investment houses changed their forecast for the future rate hikes to include two 75bp over the summer. As such, one may say that this Fed cycle will end up being different than the previous ones, thus supporting a strong dollar.

Upside surprise in the May CPI report

Last Friday, the May CPI report showed that inflation keeps rising in the world’s largest economy. The Fed is worried about the pace of the prices of goods and services, and the upside surprise might be enough to trigger a surprise move by the Fed.

Forward guidance implies only a 50bp rate hike, but the Fed knows that in order to stop rising inflation, it must do something more. Besides the upside surprise in the May CPI report, inflation expectations surge too.

According to the Michigan consumer survey, long-term inflation expectations have risen further, thus pressuring the Fed to do more.

Financial press hints at 75bp rate hike

So how would the Fed hint that it will hike by more than the market expects? The answer is by providing hints to financial press representatives.

An article in the Wall Street Journal hints from the Fed leadership that a 75bp rate hike is coming. Nick Timiraos has interviewed the Fed’s Chair in the past, so if there is one medium to communicate to the markets a change in expectations, an article in the Wall Street Journal might be the right tool.

This article was enough for Goldman Sachs to change its expectations. It now revised its Fed forecast to include 75bp hikes in June and July.