The US Federal Reserve should consider pivoting away from its aggressive monetary policy actions as financial conditions have tightened drastically to bring inflation down, the Institute of International Finance (IIF) said.
This emphasis on spot inflation and other data has conditioned markets to react violently to instances where data releases are meaningfully different from consensus, the Washington-based institute said in a report on Friday.
Spot data is derived from actual prices and the IIF said that historically, monetary policy has always been forecast-based, whereby policymakers target inflation two years ahead.
With the sharp rise in US inflation, this forecast-based approach has, at least to some degree, given way to the reaction to spot inflation and other data, it said.
"It is possible that financial conditions have already tightened sufficiently to bring inflation down on a two-year horizon, so reacting to spot data may raise the risk of a hard landing," the IIF economists said.
"It is, therefore, better not to react too much to the ongoing data flow ... this is why a Fed pivot to a slower pace of hikes is warranted in September. Such a pivot would also be consistent with longer-term inflation expectation."
The IIF also cited the latest US jobs report and the dollar's strong jump in reaction as one of the reasons spot data carries risks. US job growth surged in July, as the economy added 528,000 positions, defying all expectations of a slowdown.
The IIF said the the shift was on "full display" in June when Fed chairman Jerome Powell linked the acceleration of Fed hikes to higher-than-expected inflation for May and and rising inflation expectations".
"Financial conditions have tightened drastically, especially in housing, and — more fundamentally — data have gotten noisier in the Covid recovery, so it is not clear to us that high-frequency data surprises carry much information, IIF economists said.
Putting a greater emphasis on forecasts rather than on spot data will mean "it is time for the Fed to pivot — slow the pace of monetary policy tightening going forward", they said.
In July, the US said its economy had shrunk for a second quarter in a row, a “technical recession” according to commonly followed definition, as record-high inflation and aggressive interest-rate increases by the Fed hit businesses and housing demand.
The central bank last month raised interest rates by three quarters of a percentage point, which was its third increase in three months and the biggest since 1994 after inflation climbed again in May, jumping 8.6 per cent on an annual basis.
US Federal Reserve raises interest rate by 0.75 percentage points
The rate of inflation, however, eased in July, with falling petrol prices providing some relief for Americans.
Consumer confidence in the housing market, meanwhile, fell to its lowest level since 2011, the mortgage association Fannie Mae said this week.
The IIF last month warned that a risk of a global recession is “rising sharply” amid a combination of shocks, including the effects of the Russia-Ukraine conflict on the eurozone, Covid-19 pandemic-related uncertainty in China and the sharp tightening in US financial conditions.
The global economy is projected to grow 2.3 per cent in 2022, compared with an earlier 4.6 per cent estimate, the IIF said in a May 26 report. It also cut its growth forecast for the eurozone this year to 1 per cent from an earlier 3 per cent estimate, saying it was a “recession call”.
