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US Federal Reserve considers pausing interest rates hikes
03:40 - Source: CNN

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New York CNN  — 

Federal Reserve officials are widely expected to announce on Wednesday a pause in their regimen of rate hikes.

After 10 consecutive hikes, investors are pricing in a 94% chance that the Fed will leave rates unchanged for the first time since January 2022, according to the CME’s FedWatch Tool.

But a pause is not a full stop.

The labor market, which policymakers believe to be a key driver of inflation in the dominant services sector of the economy, is still remarkably strong. Now there’s a growing consensus on Wall Street that central bank officials could restart the hikes, meant to fight elevated inflation, as soon as July.

But what does the Fed mean when it talks about labor markets and their impact on inflation? A lot of it has to do with a troublesome slowdown in productivity.

What’s happening: At its most basic level, labor productivity is a measure of the value of the goods and services produced by a company compared with the amount of labor used to produce that output.

Productivity moves in the opposite direction to wages and so if it remains depressed, there will be upward pressure on labor costs — and ultimately on inflation, said Lisa Shalett, CIO of Morgan Stanley Wealth Management.

That’s a big deal to Fed officials who have spoken publicly about their fears of a wage-price spiral — the feedback loop that drives inflation higher as people make more money and go out and spend it.

“The crosscurrents for the Fed are complex. Big bets about the pace of the hiking path are ill advised,” said Shalett.

During the Fed policy meeting in May, participants expressed worry that even though the pace of wage growth has been gradually slowing, it’s still “running at a pace that, given current estimates of trend productivity growth, was well above what would be consistent over the longer run with the Committee’s 2% inflation objective,” according to minutes from the meeting.

Productivity in the United States has been steadily declining since 2005, but the post-pandemic landscape has accelerated that downturn significantly. Labor productivity decreased 2.1% in the first quarter of 2023, the US Bureau of Labor Statistics reported earlier this month.

That was the worst reading since 2007, according to the BLS.

Bad for the