As expected, the Federal Reserve raised the overnight Federal Funds interest rate by 25 bps (or 0.25%) to a range of 4.75% to 5.00%.

The accompanying statement gave no hint that the Fed was any less determined to aggressively fight inflation than before: “The Committee anticipates that ongoing increases in the target range will be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2 percent over time.” The repeated use of the phrase, “ongoing increases” strongly suggests that the Fed is not done yet in raising the Fed Funds rate. It is widely expected that the Fed’s last hike of the year will be 25 bps in March.

The statement also changed the language in the phrase, “In determining the extent of future increases in the target range…” whereas in the previous statement the word “pace” was used instead of “extent”. The phrasing suggests that the Fed is now focussing more on when to stop hiking as opposed to how fast it will hike.

So far, the Fed has been more aggressive in raising the Fed Funds than in any hiking cycle in the modern era.

The Fed has been adamant that they will not cut the Fed Funds rate in 2023.

But then a tiny dove flew into the room.

“Given our outlook, I don’t see us cutting rates this year if our outlook comes true…”

There were other signs of dovishness in the statement and the press conference.

The statement included new language saying that “Inflation has eased somewhat but remains elevated…”

In the press conference, Powell stated that “We can now say I think for the first time that the disinflationary process has started. We can see that and we see it really in goods prices so far..”

Powell said it is “certainly possible” that the Fed will keep its benchmark interest rate below 5%. That would imply only one more hike this year. Furthermore, it is less than the median projection from the December 2022 meeting of 5.125% and substantially less than the seven participants from that meeting who thought the Fed Funds rate would be 5.375% or higher at the end of 2023.

But then something really unexpected happened. Powell said he was “not concerned” about the bond market anticipating a cut this year because it is expecting inflation to fall faster than the Fed does. “If we do see inflation coming down much more quickly, that will play into our policy setting, of course,” That is very different than what he has been saying before.

Indeed some indicators of inflation have started to slow. The Fed’s favorite measure, the deflator for Personal Consumption Expenditures core rate (ex-food and energy) appears to have broken out of a recent range and is now down to 4.4% y/y compared to the 39-year record of 5.4% set in March of 2022. The price component of the ISM’s manufacturing index has been in contraction below 50 for four straight months. And by the way, the overall ISM is at 48.4, while the critical new orders component has been in contraction for five months, more signs of a weakening economy.

As I pondered in a previous report, should the Fed perhaps pause on its journey of hiking rates? Since monetary policy takes three to five quarters to have a full impact, there is still plenty of inflation-killing ammunition which has already been shot but just hasn’t gotten to the target yet.

Furthermore, there are many signs that the economy is quite likely to be heading into a recession. We are seeing falling retail sales, shrinking real disposable personal income, slowing real consumption expenditures, consumers worrying more about the future than the present, slowing in the labor market, a collapsing housing market, weak ISM reports, and of course the inverted yield curve. It’s a gruesome list. And that inflation-killing ammunition is headed directly at the economy too. Maybe the Fed should take a breather?

The employment report comes out on February 3rd and will give us more data on nominal hourly wages (above) as well as a slowing trend in job growth.