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As predicted, on Wednesday, February 1, 2023, the Federal Reserve increased the federal funds rate by ¼%. Below, please find commentary on this increase from our bank’s Chief Investment Officer, Rand Westland, and a copy of the Federal Reserve’s statement addressing their decision.

M. Randolf Westlund, CFA:

Statement Summary: Fed funds rate range increases 25 bps to 4.50%-4.75%. Unanimous vote. Balance sheet reduction plan continues. Items of note: 1 – a nod to inflation easing; 2 – Ukraine war effect changed to uncertainty; 3 – rate increase determination changes to level from pace; 4 – pandemic removed from special mention; 5 -  four new voting members.  

We will not see the Fed’s next Summary of Economic Projections (SEP) until March.  With a new mix of FOMC voting members and upcoming speeches, the key thing to watch will be whether the markets and the FED continue to disagree on the upcoming path for rates and the economy. Even as economic data continues to pour in, though, the Fed will reiterate its core message for the interim:  inflation is too high, and we will deal with it. 

Mr. Powell’s press conference highlighted again that inflation rules the day.  He made many notable comments (too many to  recount here, but the transcript is a pretty easy read for you wonks out there), and the blogosphere and commentator ranks are running with the things they feel are most important. Interestingly, in somewhat different phrases than the last press conference, Mr. Powell still pointed out that the Fed is data-dependent, is cheered by inflation progress, but does not see rate cuts this year. As before, I believe his remarks reiterate that the Fed knows that the impact of previous rate increases is not yet fully realized (he did explicitly say that), and the shift to discussing the potential rate level rather that the pace of increase allows a data-dependent Fed to consider what additional moves may be needed. 

Prior to the Fed meeting, markets had settled into an expectation for a .25% rate increase, but also thought Mr. Powell might take a position of “scolding” the markets for getting ahead of reality. (Don’t they always?) But his tone was not that of the hall monitor, but that of a reasoned analyst. With hope for an indication that rate increases are nearing completion, the markets completely ignored the repeat of the “higher level coming, and higher for longer” message. Again, as fixed income markets adjust expectations for future rate levels, the placement of the Fed funds peak rate remains anchored in the spring of 2023. Even with Mr. Powell pointedly saying that the FOMC does not expect rate cuts anytime soon, the interest rate markets continue to respond with disbelief, and the yield curve and futures point to lower rates coming sooner rather than later.

The equity markets have been somewhat ebullient in 2023, led by international markets, as the process of discounting the future begins to look past the current duress to more-better possibilities: a Fed pause, an economic muddle-through, a China reopening, earnings “better than feared,” and more. But the primary driver appears to be the expectation of an unwinding of the rate increases that caused markets to drive down prices in 2022. There are some voices of caution; after all, it is only early February and there is much ground to traverse in 2023.

Looking ahead, the uncertainties are not yet dispelled – are they ever? Even so, this suggests ongoing volatility in the investment markets for the foreseeable future. Are markets getting ahead of conditions?  Perhaps; I continue to believe that the core economic fundamentals retain a solid foundation, and an economic muddle-through is just as likely as the more negative outcomes being forecast. If so, equity markets may be right to be positive, while fixed income markets are incorrect as rates may likely retrace the upward path. As they say, time will tell…

This commentary was prepared by Cedar Rapids Bank & Trust and is intended for your private use. This material reflects the current opinion of the Investment Group based upon sources believes reliable but not guaranteed by it. Opinions expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.

Federal Reserve Statement - February 1, 2023

Recent indicators point to modest growth in spending and production. Job gains have been robust in recent months, and the unemployment rate has remained low. Inflation has eased somewhat but remains elevated. Inflation remains elevated, reflecting supply and demand imbalances related to the pandemic, higher food and energy prices, and broader price pressures.

Russia’s war against Ukraine is causing tremendous human and economic hardship and is contributing to elevated global uncertainty. The Committee is highly attentive to inflation risks.

The Committee seeks to achieve maximum employment and inflation at the rate of 2 percent over the longer run. In support of these goals, the Committee decided to raise the target range for the federal funds rate to 4-1/2 to 4-3/4 percent. 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. In determining the extent of future increases in the target range, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments. In addition, the Committee will continue reducing its holdings of Treasury securities and agency debt and agency mortgage-backed securities, as described in its previously announced plans. The Committee is strongly committed to returning inflation to its 2 percent objective.

In assessing the appropriate stance of monetary policy, the Committee will continue to monitor the implications of incoming information for the economic outlook. The Committee would be prepared to adjust the stance of monetary policy as appropriate if risks emerge that could impede the attainment of the Committee’s goals. The Committee’s assessments will take into account a wide range of information, including readings on labor market conditions, inflation pressures and inflation expectations, and financial and international developments.