Inflation data arrives at critical moment for Fed after bank failures, jobs data

In the wake of the failure of Silicon Valley Bank (SIVB), investors will be closely monitoring what earlier this month had been seen as the most important data point for the future of Federal Reserve policy — the February inflation report.

The closely-watched Consumer Price Index (CPI) is expected to show consumer prices cooled slightly last month, with headline inflation forecast to rise 6% over the prior year, a slowdown from January's 6.4% annual gain, according to estimates from Bloomberg.

A 6% increase would mark the slowest annual increase in consumer prices since September 2021.

Over the prior month, consumer prices are expected to have risen 0.4% in February, down from the 0.5% monthly increase seen in the year's first month.

On a "core" basis, which strips out the more volatile costs of food and gas, prices in February are expected to have risen 0.4% over the prior month and 5.5% over last year, according to Bloomberg data.

Tuesday's inflation data comes just over a week before the Fed's next policy announcement, set for March 22, at which investors now expect the central bank to raise interest rates by 25 basis points, or 0.25%.

"If the CPI and its tangle of subcomponents come in hotter than expected the odds of a 50-basis point rate hike loom larger," wrote Bob Schwartz, senior U.S. economist at Oxford Economics. "[Conversely], should this critical inflation gauge show more signs of cooling, Fed officials are likely to take a more cautious approach, keeping the rate hike at the smaller 25-basis point taken at the last meeting."

As of mid-afternoon on Monday, markets are pricing in an ~80% chance the Fed raise rates by 25 basis points at its March 22 policy meeting with a ~25% chance the Fed leaves rates unchanged, according to data from the CME Group.

Last week, investors placed a better-than-50% chance on the Fed raising rates by 50 basis points this month following two days of testimony from Fed Chair Jerome Powell that emphasized interest rates were likely to go higher than previously forecast.

Developments from the banking sector over the last week have changed this outlook.

"The threat of a systemic disruption in the banking system is small, but the risk of stoking financial instability may well encourage the Fed to opt for a smaller rate increase at the upcoming meeting," Schwartz added. "The astonishing 45 basis point plunge in the Treasury 2-year yield on Thursday and Friday supports that prospect."

Wall Street economists remain split on the decision with Goldman Sachs predicting the Fed won't raise rates. Bank of America, EY, and Oxford Economics have argued in favor of a 25 basis point increase.

The Fed, which has a current benchmark interest rate target of 4.5%-4.75%, has hiked rates by a cumulative 4.5% over the past year in an effort to quell inflation. Consumer prices peaked last summer, hitting a roughly 40-year high of 9.1%.

The Federal Reserve has hiked interest rates by a cumulative 4.5% over the past year in an effort to quell inflation as Fed Chair Jerome Powell commits to aggressive monetary policy
The Federal Reserve has hiked interest rates by a cumulative 4.5% over the past year in an effort to quell inflation as Fed Chair Jerome Powell commits to aggressive monetary policy (Kevin Lamarque / reuters)

The Fed's focus on inflation and the labor market in setting policy will be put to a unique challenge as the central bank also manages its so-called "third mandate" of financial stability in wake of three bank failures in the last week.

The labor market also presents another complication for the central bank, with January's nonfarm payrolls growth of 504,000 jobs coupled with February's stronger-than-expected report unlikely to encourage an easing in the Fed's aggressive policy stance.

"The Fed needs to see more evidence of reduced demand for labor to develop a more confident read of the influence of more restrictive monetary policy biting into income, consumption demand and consequently inflation, and particularly the sticky-high service inflation," Rick Rieder, BlackRock’s chief investment officer of global fixed income, wrote in a note on Friday.

Rieder added the impact of rising rates further complicates next week's decision, explaining: "Furthermore, with the banking industry recently suffering a jab to the jaw, and markets consequentially adjusted the pricing of Fed hikes based on the potential of greater financial stability risks, we need to keep in mind that the Fed’s other unofficial mandate has been the maintenance of financial stability."

Alexandra Canal is a Senior Entertainment and Media Reporter at Yahoo Finance. Follow her on Twitter @alliecanal8193 and email her at

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