Global markets are turning their attention on Wednesday to the US Federal Reserve as expectations for the path of interest rates undergo a sharp shift, with the probability of a rate hike jumping to around 90% amid accelerating inflation and rising energy prices. Meanwhile, the yield on the benchmark 10-year US Treasury note has risen above 5% for the first time since 2023.
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The surge in rate-hike expectations does not mean an increase is a foregone conclusion. The Federal Open Market Committee began its two-day meeting on Tuesday and is due to announce its decision on Wednesday, September 16. The committee could still leave interest rates unchanged if it determines that economic risks do not warrant further monetary tightening.
The federal funds rate currently stands at a range of 3.50%-3.75%, after the Fed kept rates unchanged at its previous meeting in July. If policymakers opt for a hike, markets are currently pricing in a 25-basis-point increase, which would lift the target range to 3.75%-4.00%.
For Jordan, the US decision carries direct significance given the dinar's peg to the US dollar. Developments in global interest rates, particularly US rates, are therefore among the factors considered in domestic monetary policy decisions. The Central Bank of Jordan's main interest rate currently stands at 5.75%.
Markets' Rate Expectations Shift Rapidly
The significance of the September meeting lies in the speed with which market and economist expectations have shifted in less than a week.
In a Reuters poll published on September 9, more than two-thirds of economists surveyed expected the Fed to keep interest rates unchanged at its current meeting and maintain that stance through the end of the year.
The picture changed sharply following the release of US inflation data. The latest Reuters poll, conducted after the data were released, showed that 86 of 101 economists, or 85%, now expect the Fed to raise rates by a quarter percentage point at its September 15-16 meeting, compared with a clear majority expecting rates to remain unchanged just days earlier.
In financial markets, interest-rate futures are now pricing in a probability of nearly 90% for a rate increase at the current meeting. They are also pricing in several potential hikes through July next year, reflecting changing investor expectations over how long the Fed may need to respond to inflationary pressures.
However, these probabilities represent market expectations at a specific point in time and are not an official indication from the Federal Reserve of the decision it will announce on Wednesday.
Inflation Reshapes the Rate Outlook
The major shift in expectations followed official data showing that US consumer prices rose 0.4% in August from the previous month, after increasing 0.1% in July. Annual inflation reached 3.4%.
Data from the US Bureau of Labor Statistics showed that gasoline prices rose 3.9% in August, accounting for more than one-third of the monthly increase in the Consumer Price Index.
The overall energy index also rose 2.1% in a single month and 16.3% from August last year. Fuel oil prices climbed 10.1% month-on-month, underscoring the extent of energy-related pressure on overall prices.
The developments are particularly significant for the Fed, as inflation remains above its 2% target, while higher oil prices raise concerns that price pressures could persist or gradually spread to other parts of the economy.
At its previous meeting, the Fed had already indicated that inflation remained elevated relative to its target and that supply shocks had contributed to higher prices in sectors including energy.
Fed Division Emerged Before September Meeting
Pressure for a rate hike did not begin with the August inflation data. Minutes from the previous Federal Open Market Committee meeting showed that the July decision to keep rates unchanged was not unanimous.
Nine members voted to maintain the target range at 3.50%-3.75%, while three members dissented in favor of a 25-basis-point rate increase.
This indicates that a rate hike was already being considered within the committee before the latest inflation figures were released, before market expectations shifted more decisively in favor of an increase in recent days.
The final decision, however, will depend on the committee's vote and its assessment of the full range of economic data, balancing inflation risks against conditions in economic activity and the labor market.
10-Year Treasury Yield Tops 5%
Alongside the shift in interest-rate expectations, the yield on the 10-year US Treasury note rose above 5% on Monday for the first time since October 2023, reaching around 5.01% during trading.
Treasury yields are influenced by more than monetary policy expectations. Inflation concerns linked to higher oil prices, increased US debt issuance, greater borrowing to finance artificial intelligence-related investments, and concerns over the US fiscal deficit and public debt have also weighed on bond prices and pushed yields higher.
The 10-year Treasury yield has significance far beyond the US debt market, as it is one of the world's key benchmark financing rates. Its movements affect mortgage costs, corporate credit, consumer loans and the pricing of a wide range of assets.
The Federal Reserve therefore enters its meeting facing a more complex equation: inflation above target, an energy-price shock and long-term Treasury yields at levels not seen in nearly three years.
