Federal Reserve chair Jay Powell’s phrase ‘bump in the road’ to describe choppiness in the expected downward path for inflation is being tested following a third consecutive hot inflation reading on 10 April.

Headline consumer price inflation for March remained elevated at 3.5%, while core inflation, excluding volatile food and energy prices came in at 3.8%, both ahead of forecasts.

At the March interest rate policy meeting Powell said February’s and January’s higher-than-expected inflation readings were likely due to ‘seasonal’ factors, but increased uncertainty on the outlook for inflation prompted a sharp reversal in investor sentiment.

US stocks fell and bond yields jumped to their highest levels this year with the 10-year bond yield moving back above 4.5%.

Markets quickly priced the odds of a June interest rate cut down to 24% from around 75% before the inflation data was released, while a cut in July is now seen as no more likely than a coin-flip.

Rate-cut expectations have swung dramatically from 1.5% at the beginning of the year to around 0.4% according to Bloomberg, implying between one and two quarter-percentage-point cuts by the end of the year.

Forecasters calling for zero rate cuts were considered outliers only a few weeks ago but today those voices carry more weight.

One such voice is former Treasury secretary Larry Summers, who told Bloomberg, ‘You have to take seriously the possibility that the next rate move will be upwards rather than downwards.’

This sharp turnaround in expectations means the consensus view is now below the Fed’s own interest rate forecast which calls for three quarter-point cuts in 2024. 

Minneapolis Fed president Neel Kashkari told reporters (4 April) that if inflation continues to stall then no interest cuts may be needed by the end of the year.

Complicating the outlook further is the proximity of the US general election in November, with Franklin Templeton suggesting the Fed won’t want to appear to be unduly influencing the outcome.

In practice, this means the central bank may avoid starting the rate-cutting cycle at either the September or November interest rate meetings.

These gyrations in interest rate expectations are fueling increased volatility in the currency markets, with the US dollar on course for its best weekly performance since 2022 rising 1.6% against a basket of currencies.

The pound fell to $1.243 against the dollar, its lowest since November 2023, while the Euro fell to $1.064 and the Yen sank to a 34 year low below before recovering to $153.89.

Momentum in the US dollar and bond yields was also sustained by March US retail sales which jumped 0.7% (15 April), considerably higher than consensus forecasts for a 0.3% increase. 

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