The Fed pause markets expect is not the end of the tightening debate

The expected pause

Two research houses agree on this week's outcome and disagree with anyone calling it a settled matter. BBVA Research expects the FOMC to leave the fed funds target range unchanged at 3.75-4.00%, paired with a hawkish narrative as the committee seeks further evidence before deciding whether sticky inflation warrants lifting the rate beyond December. ABN AMRO expects the same hold on Wednesday, but cautions that the decision is more finely balanced than market pricing suggests. m:…1073 m:…7204

UBS likewise describes markets as awaiting the decision with an expectation that rates stay unchanged. Short-term rates markets are pricing only about 2 basis points of tightening for this week's meeting, according to Scotiabank's FX note, which is a market that has nearly, but not entirely, ruled out a surprise. The pause is the consensus; what happens after it is the trade. m:…0340 m:…3205

Why December stays live

ABN AMRO still expects one final 25 basis point hike in December, followed by an extended hold. Markets currently put the probability of an October hike at less than 10%, ABN AMRO notes, while Scotiabank puts December pricing at 22 basis points of tightening. That gap between a priced December and an expected December is the whole debate: the market is paying for the possibility without committing to it. m:…7204 m:…3205

The hawkish case rests on inflation that has not eased enough. BBVA Research says September's inflation data offered little reassurance that underlying price pressures are easing sustainably, keeping the case for additional tightening alive and the committee's tightening bias firmly intact. ABN AMRO's counterweight is that declining inflation breadth and a cooling labour market give the Fed room to wait, and that the Fed can afford another six weeks to judge whether the latest inflation strength is persistent pressure or another temporary bump. m:…1073 m:…7204

The data underneath

The numbers behind the wait are mixed in a way that helps both sides. ABN AMRO reports September headline inflation rising 0.65% to an annual rate of 3.7%, with core prices up 0.34% month on month. On the labour side, payrolls rose by only 29,000, the three-month average has fallen to around 50,000, previous months were revised down by 60,000, unemployment rose to 4.2% largely on higher participation, and annual wage growth declined to 3.0%. m:…7204

BBVA Research adds texture: underlying demand remains resilient despite uneven growth, a struggling housing sector contrasts with strong consumption and AI-related investment, and a weaker-than-expected employment report pointed to slower hiring without challenging the FOMC's assessment of a broadly stable labour market. UBS adds the household side, reporting that the affordability crisis has weighed on consumer sentiment with less impact on consumer actions. This suggests the consumer is gloomy but still spending, which is awkward evidence for both the hawks and the doves. m:…1073 m:…0340

The dollar's read

Currency markets are already trading the hawkish version of the pause. ING reports the dollar finding good support early in the week, as stabilising AI sentiment allowed markets to reconnect with a supportive backdrop of a hawkish Federal Reserve and high energy prices, with Chair Kevin Warsh's reiteration of inflation commitments seen as reinforcing a structural floor for the dollar. ING also notes the Conference Board consumer confidence index surprisingly falling to 81.9 in September, and expects the Reserve Bank of New Zealand to hike 25 basis points to 3.0%. m:…9468

ING expects a hold on Thursday by the European Central Bank, so the Fed is not the only central bank in a holding pattern this week. UBS adds a warning about the data itself: a new sentiment poll is due, political partisanship is expected to undermine its economic credibility, and investors are sceptical that Chair Warsh will offer useful insights at the press conference. The decision may therefore matter less than the language around December, and the language may matter less than the next inflation and payroll prints. m:…9468 m:…0340