US | Recession fears and debt ceiling anxiety are both weighing on interest rates

Summary

As suggested by the FOMC last month, “some additional policy firming” will likely mean that the Fed will decide to take the fed funds rate to a 5.00- 5.25% target range peak next wednesday through a final 25bp rate hike.

Key points

• Key points:
• The FOMC’s policy statement will also hint that the Committee wants to stick to its plan of keeping rates high as a period of “below-trend growth” is needed to bring down inflation.
• Short-term rates have pushed higher on debt ceiling concerns but the yield curve shifted to the downside on recession concerns and renewed anxiety about regional banks.
• The 10y-3m yield spread moved sharply lower as increased anxiety about the debt ceiling collided with recession worries; the 10y-2y spread edged up with the peak rate in sight.
• Markets now price in a 5.00-5.25% target range peak, but expect the Fed to keep rates at that level for longer before starting a rate cut cycle in 4Q, moving closer to our baseline scenario over the last month.
• Credit conditions in the US are likely tighter than what traditional financial conditions indices are currently suggesting. This is a reason for the Fed to move to the sidelines in order to assess how tighter conditions feed into the economy.

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