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Tight labour market obliges the Fed to quickly reverse its policy error

* The FOMC hiked its policy Fed Funds rate by 75bps on 15 Jun'22, the sharpest single hike in 28 years, taking the central rate to 1.625% (official range of 1.5-1.75%).

* With headline CPI inflation at 8.6% YoY in May'22, and wage inflation at 5.2%, inflationary expectations needed to be nipped in the bud, and the Fed has finally taken a decisive action.

* We expect the FF rate to reach 3% by Sep'22, then rise more sedately. This will induce a shallow recession by Mar'24. We are bullish on the US market with a 6-month view

The FOMC raised its policy rate by 75bps to 1.5-1.75% (a central target rate of 1.625%), and signalled a "strong commitment" to bring down inflation to 2%. The rate hike was the largest at a single meeting in 28 years. Importantly, the summary of economic projections by FOMC members has changed dramatically since the Mar'22 meeting: for the Fed Funds rate, the median FOMC projection is 3.4% by end-2022 (up from a 1.9% projection in Mar'22), implying another 175bps of rate hike this year. The quickening pace of rate hikes is expected to bring down the real GDP growth rate to 1.7% in 2022 and 1.7% in 2023 (from 2.8% and 2.2%, respectively) with the unemployment rate slightly higher in each year (2022-24). But PCE and core PCE inflation are projected to be higher in 2022, implying FOMC members were behind the curve with their inflation forecasts in Mar'22 (and indeed since at least Sep'21). Finally, it is now clear that the FOMC (and chair Jerome Powell) has turned properly hawkish about inflation, acknowledging that the labour market is "nearly the tightest it has been for 50 years" (Powell), and that inflationary expectations are beginning to rise -- something that the Fed is determined to counter. In effect, the Fed is at last recognising that it needs to act decisively to nip the rising inflationary expectations in the bud. While the FOMC believes the longer-run ("neutral") level for the Fed Funds rate is 2.5%, FOMC members' projections have the Fed Funds rate at 3.8% at end-2023 and 3.4% at end-2024 (i.e., remaining well above the neutral level for the next 2.5 years in order to wrestle inflation down). These are extremely hawkish projections, implying that the FOMC recognises that inflation fight could go on for a couple of years -- but chair Powell implied, in his press conference, that they would act quicker and more decisively if the data flow required it.

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