Deutsche Bank's View on US CPI - FJElite
As the chart below shows, the amount of Fed tightening in a hiking cycle is strongly correlated with the initial starting point for inflation. This makes intuitive sense, as the Fed has a mandate for price stability, and the higher inflation is, the more tightening is required to get that under control again.
This proved to be a strong guide in 2022. Initially, markets priced in a fairly shallow hiking cycle by historical standards, with the Fed initially hiking by 25bps. But they then accelerated up to larger 75bp increments, and ultimately hiked by 450bps within the first 12 months, and 525bps in total.By the end, they were much closer to the trendline of the chart.
Today, CPI inflation is at 3.5%, and expected to remain above 3% by the consensus into year-end. However, futures are simultaneously pricing a shallower hiking cycle than historical precedent would imply for that level of inflation, with fewer than 50bps of hikes priced in. So the risk is that, in a scenario where both growth and inflation prove resilient, markets are underpricing the extent to which the Fed could pivot hawkishly, just as happened back in 2022.
