Market sees next Fed hike in October, following Barr comments, hot inflation

An October interest rate hike is very much on the table after a top Federal Reserve official Wednesday expressed support for one, and as fresh economic readings showed intensifying inflation pressures.

In remarks prepared for a housing conference in Chicago, Fed Governor Michael Barr said he thinks policymakers still have more work to do even after last week’s quarter-percentage-point increase.

“In my base case, further policy adjustments are likely to be needed to ensure inflation comes down to target in a timely fashion,” he said. “We want to support sustainable, durable growth in support of maximum employment, and price stability is crucial to that.”

The remarks came the same day that S&P Global said its flash gauges on both the manufacturing and services industries hit their highest levels in more than four years.

The services index as measured by responses from purchasing managers hit 58.7, its highest in 59 months, while the manufacturing index jumped to 56.7, the peak going back 53 months. The composite rose to 58.4, a 62-month high. Any reading over 50 represents growth.

Along with that came price pressures: The firm said its overall inflation measure hit its highest level since October 2022, a result of higher fuel and transportation costs as well as rising wages.

“Firms’ input costs have meanwhile jumped in September at the steepest rate for four years, with fuel and transport costs spiking higher thanks to the rise in oil prices seen during the month, which will add further to the upward pressure on selling prices and inflation in the coming months,” said Chris Williamson, chief business economist at S&P Market Intelligence.

On the employment side of the Fed’s dual mandate, companies reported needing more workers to handle order backlogs. Job growth in the PMI surveys rose “at a rate not seen since June 22 and a pace rarely exceeded since comparable data were first available in 2009,” S&P stated in its survey narrative.

Service sector employment hit its fastest expansion rate since June 2002, while manufacturing was at its highest pace since February 2021.

Markets reacted aggressively to the news.

The odds of a rate hike when the Federal Open Market Committee meets again Oct. 27-28 jumped to 73%, according to the CME’s FedWatch, which calculates the probability based on 30-day Fed funds futures contracts.

At the same time, Treasury yields soared, with the 2-year note, considered the most sensitive to Fed policy expectations, climbing more than 13 basis points to 4.9%. One basis point equals 0.01%, and yields move opposite prices.

A week ago, the FOMC approved an increase of 25 basis points that took the benchmark rate to a target range of 3.75%-4%.

Barr called the move an “important action” that he supported along with the other 11 FOMC voters. Of the 18 meeting participants who submitted projections, only two didn’t expect another increase this year, though there had been some speculation on whether the committee would wait until after the November midterm elections and then hike in December.

Barr said the committee was “out of position” on rates “and we made an adjustment in the right direction.”

Earlier this week, regional presidents Alberto Musalem of St. Louis and Susan Collins of Boston — neither of them FOMC voters this year — both indicated they see a need for further hikes.