As market attention shifts to the upcoming U.S. Federal Reserve meeting, policymakers could signal that expected rate cuts may not come as fast or be as deep as initially expected. Derek Burleton, Deputy Chief Economist at TD, speaks with MoneyTalk’s Greg Bonnell about the economic challenges being faced by the Fed.
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[AUDIO LOGO]
Investors are awaiting this Wednesday's US Federal Reserve rate decision. But with some inflation measures still coming in hot, when are the central banks going to feel like it's time to start cutting rates? Joining us now to discuss, Derek Burleton, VP and deputy chief economist at TD Economics. Derek, great to have you back on the program.
Thank you, Greg.
All right, so this is clearly what the eyes are on this week in terms of what the most powerful central bank in the world might get up to. What is the economic data telling us about what they might get up to this year?
Well, you look at the data, and certainly not screaming for rate cuts. We'll be putting out a new forecast tomorrow, a quarterly March outlook. And it's a bit like Groundhog Day-- revising up the spending data, the GDP data for this year, not seeing a whole lot of slowdown. And I think, at the same time, inflation had been fading away very quickly at the end of last year-- in the last few months, including the February CPI data, been a little bit choppy of late.
We had a bit of regression in some of the CPI measures, core measures. We've been thinking all along there's a risk that while inflation may not reignite, and I don't think it will, that that last wood to chop from, say, 3% down to 2% target was going to take a little time. So I think that's where we stand now.
I think, bringing it back to the Fed, it's going to mean patience. That's what they've been indicating. And it's certainly not going to take away from the rate cut story. It's going to mean slower rate cuts than what many had thought two, three months ago, for sure.
You talked about the fact that, obviously, when we were talking about headline inflation of 8% or 9%, we have come a long way since then. But the stickiness around 3% and above 3%-- do we scratch our heads a little bit? Or do we sort of have a good handle on it? I mean, these have been restrictive borrowing costs for quite some time. South of the border, it's not slowing the economy anywhere near what we had thought at the outset.
Yeah. I think it all boils down to the inflation data that the Fed has been taking. They've been deemphasizing growth. I still think it does matter. To say it doesn't matter at all if the economy is doing well-- and we hear from Fed officials, another reason for patience. But it really boils down to the inflation indicators.
And to your point, they've been improving. They're still running-- as of last count, still running around 3% on trend basis, which we're almost there. And Powell mentioned himself, we're nearly there.
But I do wonder, when we get to Wednesday, whether that latest assessment was before the February inflation data, which were worse than expected. Does he modify that language at all? That's certainly one of the questions I'm going to be paying a particularly close attention to on Wednesday.
I guess the extent, too, that they push back against market expectations. I feel like market expectations have been shifting. You've got to remain nimble because the economy is a fluid thing and it changes. But we entered this year, I think, with expectations that, perhaps, now we'd be talking about being on the cusp of a rate cut. Not quite on that cusp anymore.
No. I mean, the markets have already aligned to this. I think at the margin, you think about back in January at the peak, 150 basis points in rate cuts for this year. We certainly should be almost underway based on those early year views. The market's swung way over now. They're pricing about 3/4 of a point this year.
I think all the focus as well is going to be on the change to what we call the Fed dot, which is the Fed's median expectation of interest rates. It's not a forecast in that each individual Fed member, a good 17, come up with their own view. So then they bring them all together, and what's the median?
And there's a risk that they could move from three 1/4 point cuts baked into 2024 to two. And I think if that happens, we may get yields adjusting a little further. But a lot of the heavy lifting has been done. I think the markets now are pretty well positioned overall for what we're likely to see.
All right, keep an eye on that dot plot when it comes out later in the week too. Before we move to Canada, one more question about the States. Can an argument be made that if the economy in the States is performing this well with interest rates at this level that, perhaps, this is where interest rates should be?
Yeah. And the thing is that it comes down to estimates of the so-called neutral rate. And one of the things, again, on Wednesday-- the Fed comes up with their estimates on longer term rates. And that gives us a sense for what they're thinking and what that neutral rate is.
And at last count, it was 2 and 1/2. Wouldn't be surprised if they nudged that up further. Whatever it is, it's a lot lower than now. But yeah, I think there have been some pounding the drum that, why cut rates at all?
But I think, again, the Fed needs to think, OK, in a year's time, where are we going to be? It's like they don't want to be driving looking always at the rearview mirror. And I think a bit of that comes into the thinking.
That policy right now is restrictive as inflation likely trends lower. It becomes more restrictive unless you pare back the nominal interest rate. And that factors into their calculus. So, again, the Fed's going to give their updated view on Wednesday. It's going to have rate cuts. I think the question is, are they going to dial it back moderately or leave it in intact?
Let's talk about the Canadian situation, because we have seen our headline inflation come down from those dramatic peaks, but our economy is not holding up nearly as well. What's going on with the Canadian example? And what can we expect from the BOC?
Well, Canada's got a different set of challenges. There's no doubt. Our economy has not been doing nearly as well as the US. I don't think anybody has. The US has really been exceptional.
But that said, in our forecast, we're going to be nudging up Canadian growth not insignificantly for this year. That's based on the data we've had very recently showing the fourth quarter came in a bit better than we expected. Our first quarter tracking is also a little bit better.
Going forward, we don't see a ton of growth because of the same constraints-- the interest sensitivity among households, the high debt burdens. And I think that still leads us to think that they would like to cut rates, but at the same time, the inflation data-- we had a good January number. We'll see what's going to happen with February. We got that out tomorrow.
But overall, the data have been sticky as well. And it's been due to shelter. And when you look outside of shelter, the data has been better on the price side. So puts them in a bit of a box.
I think they're hawkish. And the same time, our view is that the inflation numbers will improve. And they will be able to cut rates. But we're also dialing our view back a bit on to what extent. We've only got now 100 basis points. It used to be 150 not that long ago-- so a more slower decline in interest rates.
Once both banks begin, would we expect 25 basis points at every meeting unless they got knocked off course? Or might they even get more cautious than that once they finally say, OK, we have begun, and now is the path forward?
Yeah. And we have a US election that's going to crop up. Is that an issue for the Fed? I don't think so. The November meeting falls right after the election. So I think they're going to respond to the data.
And it suggests to me that it's just not going to be automatic 1/4 point every meeting beginning mid-year, that it's going to be a little bit stop and start. That's not unusual for a cutting cycle. So I don't think it's going to be every meeting.
But you think in Canada, we got 100 basis points this year beginning in July. That's going to be most meetings-- maybe not every one-- and the Fed, same thing. Three cuts this year to the end of the year is our latest thinking. And that's not a cut every meeting after July. So expect some stop and start. [AUDIO LOGO]
[MUSIC PLAYING]
Investors are awaiting this Wednesday's US Federal Reserve rate decision. But with some inflation measures still coming in hot, when are the central banks going to feel like it's time to start cutting rates? Joining us now to discuss, Derek Burleton, VP and deputy chief economist at TD Economics. Derek, great to have you back on the program.
Thank you, Greg.
All right, so this is clearly what the eyes are on this week in terms of what the most powerful central bank in the world might get up to. What is the economic data telling us about what they might get up to this year?
Well, you look at the data, and certainly not screaming for rate cuts. We'll be putting out a new forecast tomorrow, a quarterly March outlook. And it's a bit like Groundhog Day-- revising up the spending data, the GDP data for this year, not seeing a whole lot of slowdown. And I think, at the same time, inflation had been fading away very quickly at the end of last year-- in the last few months, including the February CPI data, been a little bit choppy of late.
We had a bit of regression in some of the CPI measures, core measures. We've been thinking all along there's a risk that while inflation may not reignite, and I don't think it will, that that last wood to chop from, say, 3% down to 2% target was going to take a little time. So I think that's where we stand now.
I think, bringing it back to the Fed, it's going to mean patience. That's what they've been indicating. And it's certainly not going to take away from the rate cut story. It's going to mean slower rate cuts than what many had thought two, three months ago, for sure.
You talked about the fact that, obviously, when we were talking about headline inflation of 8% or 9%, we have come a long way since then. But the stickiness around 3% and above 3%-- do we scratch our heads a little bit? Or do we sort of have a good handle on it? I mean, these have been restrictive borrowing costs for quite some time. South of the border, it's not slowing the economy anywhere near what we had thought at the outset.
Yeah. I think it all boils down to the inflation data that the Fed has been taking. They've been deemphasizing growth. I still think it does matter. To say it doesn't matter at all if the economy is doing well-- and we hear from Fed officials, another reason for patience. But it really boils down to the inflation indicators.
And to your point, they've been improving. They're still running-- as of last count, still running around 3% on trend basis, which we're almost there. And Powell mentioned himself, we're nearly there.
But I do wonder, when we get to Wednesday, whether that latest assessment was before the February inflation data, which were worse than expected. Does he modify that language at all? That's certainly one of the questions I'm going to be paying a particularly close attention to on Wednesday.
I guess the extent, too, that they push back against market expectations. I feel like market expectations have been shifting. You've got to remain nimble because the economy is a fluid thing and it changes. But we entered this year, I think, with expectations that, perhaps, now we'd be talking about being on the cusp of a rate cut. Not quite on that cusp anymore.
No. I mean, the markets have already aligned to this. I think at the margin, you think about back in January at the peak, 150 basis points in rate cuts for this year. We certainly should be almost underway based on those early year views. The market's swung way over now. They're pricing about 3/4 of a point this year.
I think all the focus as well is going to be on the change to what we call the Fed dot, which is the Fed's median expectation of interest rates. It's not a forecast in that each individual Fed member, a good 17, come up with their own view. So then they bring them all together, and what's the median?
And there's a risk that they could move from three 1/4 point cuts baked into 2024 to two. And I think if that happens, we may get yields adjusting a little further. But a lot of the heavy lifting has been done. I think the markets now are pretty well positioned overall for what we're likely to see.
All right, keep an eye on that dot plot when it comes out later in the week too. Before we move to Canada, one more question about the States. Can an argument be made that if the economy in the States is performing this well with interest rates at this level that, perhaps, this is where interest rates should be?
Yeah. And the thing is that it comes down to estimates of the so-called neutral rate. And one of the things, again, on Wednesday-- the Fed comes up with their estimates on longer term rates. And that gives us a sense for what they're thinking and what that neutral rate is.
And at last count, it was 2 and 1/2. Wouldn't be surprised if they nudged that up further. Whatever it is, it's a lot lower than now. But yeah, I think there have been some pounding the drum that, why cut rates at all?
But I think, again, the Fed needs to think, OK, in a year's time, where are we going to be? It's like they don't want to be driving looking always at the rearview mirror. And I think a bit of that comes into the thinking.
That policy right now is restrictive as inflation likely trends lower. It becomes more restrictive unless you pare back the nominal interest rate. And that factors into their calculus. So, again, the Fed's going to give their updated view on Wednesday. It's going to have rate cuts. I think the question is, are they going to dial it back moderately or leave it in intact?
Let's talk about the Canadian situation, because we have seen our headline inflation come down from those dramatic peaks, but our economy is not holding up nearly as well. What's going on with the Canadian example? And what can we expect from the BOC?
Well, Canada's got a different set of challenges. There's no doubt. Our economy has not been doing nearly as well as the US. I don't think anybody has. The US has really been exceptional.
But that said, in our forecast, we're going to be nudging up Canadian growth not insignificantly for this year. That's based on the data we've had very recently showing the fourth quarter came in a bit better than we expected. Our first quarter tracking is also a little bit better.
Going forward, we don't see a ton of growth because of the same constraints-- the interest sensitivity among households, the high debt burdens. And I think that still leads us to think that they would like to cut rates, but at the same time, the inflation data-- we had a good January number. We'll see what's going to happen with February. We got that out tomorrow.
But overall, the data have been sticky as well. And it's been due to shelter. And when you look outside of shelter, the data has been better on the price side. So puts them in a bit of a box.
I think they're hawkish. And the same time, our view is that the inflation numbers will improve. And they will be able to cut rates. But we're also dialing our view back a bit on to what extent. We've only got now 100 basis points. It used to be 150 not that long ago-- so a more slower decline in interest rates.
Once both banks begin, would we expect 25 basis points at every meeting unless they got knocked off course? Or might they even get more cautious than that once they finally say, OK, we have begun, and now is the path forward?
Yeah. And we have a US election that's going to crop up. Is that an issue for the Fed? I don't think so. The November meeting falls right after the election. So I think they're going to respond to the data.
And it suggests to me that it's just not going to be automatic 1/4 point every meeting beginning mid-year, that it's going to be a little bit stop and start. That's not unusual for a cutting cycle. So I don't think it's going to be every meeting.
But you think in Canada, we got 100 basis points this year beginning in July. That's going to be most meetings-- maybe not every one-- and the Fed, same thing. Three cuts this year to the end of the year is our latest thinking. And that's not a cut every meeting after July. So expect some stop and start. [AUDIO LOGO]
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