If inflation in the US does not fall, the Fed may raise rates

Today at At 13:30 US inflation for February will be released. For the underlying indicator, the market consensus Thomson Reuters (TR) expects +0,4% m/m and +5,5% y/y; one-tenth of a point lower than last month +5,6%. In the case of the CPI, the market also expects +0,4% m/m and +6,0% y/y; four tenths of a point less than in January +6,4%.

The increase in systemic risk due to the SVB intervention suggests that the Fed will be sensitive and will not raise interest rates so much.

This weekend, the U.S. Treasury Department Federal Reserve and the FDIC intervened with the SVB to control systemic risk in the financial sector. In fact, the probability of a 50 basis point rate hike by the Fed at next week's meeting (March 22) has completely vanished, while last week it was over 70%. Currently, a rate hike of 25 basis points to 5,00% is 50%. Therefore, it is also not certain whether the increase will take place at all.

The worst-case scenario is that inflation does not fall and the Fed's ability to act is very limited.

The worst-case scenario is that inflation does not come down as expected by the Fed. In such a case, the Fed could be forced to raise interest rates and maintain its hawkish rhetoric, even if it could further damage the balance sheets of some financial institutions.

The likelihood of a recession continues to rise and is at its highest in decades

In this context, if the Fed continues to raise short-term interest rates, the inversion of the interest rate curve would reach levels not seen since the 70s. The spread between three-month and 10-year reaches 1,27%, which, according to economic models, triggers the probability of a recession in 12 months. Yesterday, however, the curve started to flatten in a very dynamic way due to a strong decline in yields.

Possible impact of inflation data on the market

Higher inflation than market expectations would limit the Fed's ability to help control a spike in systemic risk. Bond and stock prices could fall in tandem in the face of increased uncertainty.

A lower-than-market price increase would be a relief. The Fed would have room to withhold financial tightening. Bonds and stock markets could rebound.

Regarding Friday's inflation data, President Biden said he was optimistic about that reading. Already at 13:30 we will find out if the market is too.