Market MovesOctober 16, 2023

So Interest Rates Won’t Rise Anymore, Eh? Not So Fast

Lombard’s Blitz makes the case for why the Fed will keep hiking, all the way up to 6.5%.

Reported by Larry Light

Could the Fed’s benchmark rate actually go higher?

The conventional wisdom now says no. The standard thinking is that the Federal Reserve is finished with its tightening campaign and is embarking on a course of higher-for-longer. In other words, the central bank is expected to keep rates at their current level, or close.

The futures markets agree, although the betting is that by year-end, the Fed will have eased off a bit, with a majority of traders wagering that the benchmark fed funds rate will reach a band running from 4.5% to 5%, down from its current 5.25% to 5.5%. Several Fed officials have talked publicly about high Treasury bond yields doing the work for them, keeping borrowing costs aloft without the need for more Fed actions.

But Steven Blitz, the well-regarded chief U.S. economist at research firm TS Lombard, has a contrary take: The rate will go as high as 6.5%. Why? Signs that the nation’s economy will continue to expand and, thus, so will inflation.

In a research note, he did not buy the prevalent current notion that disinflation has momentum or that the previous high inflation’s retreat will continue.

The latest Consumer Price Index reading, for September, was up 3.7% annually, with housing and food costs the largest gainers. Certainly, that is a marked improvement from the recent high point of 9.1%, in June 2022. But the economy has not responded to higher rates the way it normally does, by contracting: Gross domestic product growth has been solid, at slightly more than 2%. And unemployment has stayed low, at 3.8%.

In light of these metrics, Blitz indicated that the Fed’s work is not done. The economy’s strength “is beginning to reverse disinflation,” he wrote. “Assuming the economy keeps growing, and most signs point in that direction near term, the Fed will go back to hiking, with 6.5% as the tacit target.”

Such a course would be risky for the Fed, which hopes to reach an inflation rate of 2%. “Whether the economy holds up until they get there,” Blitz commented, referring to the Fed, “is a different story for a different day.”