To The Moon

• A 75 basis-point move would be largest hike since 1994
• Powell previously signaled a half-point hike was probable

The latest pickups in consumer prices and inflation expectations will probably spur Federal Reserve officials to consider the biggest interest-rate increase since 1994 when they meet this week, after Chair Jerome Powell previously signaled a smaller move was the likely outcome.

US central bankers conclude a two-day meeting on Wednesday, with a decision due at 2 p.m. in Washington. Powell indicated at his post-meeting press conference in early May that the Fed would move forward with half-point rate hikes in June and July as long as economic data came in as expected. It was an unusually precise steer by the Fed chair.

But in the past few days, inflation figures have surprised to the high side, pushing investors to increase bets on a 75 basis-point increase at this week’s meeting, pricing in interest-rate futures shows. Those bets hardened on Monday afternoon following a report in the Wall Street Journal suggesting the larger move was now in play.

Wall Street

Economists at major Wall Street firms were quick to change their calls. Goldman Sachs Group Inc. and Nomura Holdings Inc. both shifted on Monday to forecast 75 basis point hikes this week and at the Fed’s meeting in late July. JPMorgan Chase & Co. also went to 75 basis points at this week’s meeting, joining Barclays Plc and Jefferies, who modified their calls Friday to the larger increase.

Powell and his colleagues, facing harsh criticism for being slow to remove emergency pandemic stimulus and allowing inflation to climb by the fastest pace in 40 years, have repeatedly said they would do whatever it takes to cool prices. While the Fed chief laid out a baseline of 50 basis-point increases in June and July, he also hedged by saying that that hinged on the economy evolving along the lines that officials expect.

On Friday morning, data showed the consumer price index rose 8.6% in May from a year earlier, a fresh 40-year high. The figures topped all estimates and underscored a broad-based advance, a sign that price pressures are becoming entrenched in the economy.

Later in the morning, University of Michigan data showed US consumer sentiment in early June dropped to the lowest on record. Respondents also said they expect inflation of 3.3% over the next five to 10 years, the most since 2008 and up from 3% in May.

That’s especially concerning for the Fed, which had been taking comfort in the fact that longer-term inflation expectations have held steady. Any de-anchoring of expectations risks price pressures becoming further embedded in the economy, as consumers anticipating higher prices will also demand higher wages. And if companies are paying employees more, they will have to charge higher prices, perpetuating the cycle.

On Monday, that risk popped up again in a survey from the New York Fed, which showed one-year ahead median inflation expectations climbed in May to 6.6%,tying the highestreading since the survey began in June 2013. However, three-year ahead projections held steady at 3.9%.

Tactical Shift

Tactically, a 75 basis-point increase would be a communication shift for Powell who has preferred to telegraph moves in advance and embrace gradualism. That strategy has allowed the Fed to lean in to tighter policy but let markets price the risk of going faster or slower as the data rolled in.

A 75 basis-point increase could boost credibility by showing the Fed’s serious about its inflation credibility. But it also risks confusing markets about what they do next.

“Once the Fed starts moving in 75s it would be hard to stop, and the combination of this and the Fed’s outcome-based approach to inflation feels like it could be a recipe for recession,” Evercore ISI’s Krishna Guha and Peter Williams wrote in a note to clients.

A 75 basis-point move could also erode Fed credibility by underscoring how poor the Fed’s forecasting has been in the post-pandemic recovery.

June’s meeting includes fresh forecasts for rate over the next couple of years. Recently, though, those forecasts have rapidly become obsolete as new data has rolled in.