Split reasons behind the Fed's hike to 3.75%-4% raise the bar for skipping the next one

Each camp needs different evidence before it stops, or rather, one camp needs one piece and the other needs two. An official who wanted insurance against inflation sticking around can be reassured by signs that temporary price increases are fading, CryptoSlate wrote in its account of the minutes ^[4][7]. An official worried that demand is running too hot would also need evidence that households and companies are reining in their spending ^[7]. One softer inflation report can meet the first test. A price report does not measure spending, so it cannot meet the second ^[18].

The Fed's tool limits what it is even trying to do. It cannot produce oil or remove an import tax, so higher borrowing costs will not fix the shortages behind some price increases ^[8]. What it can do is reduce spending enough to make those increases harder to pass along ^[8]. In September some businesses appeared better able to pass higher costs on to their buyers, and several participants flagged persistent inflation in non-housing services ^[10]. Lower fuel prices would ease the pressure on those businesses, but as long as customers keep spending, the firms could still push up prices elsewhere, according to CryptoSlate ^[17].

We see three ways the next decision could go. One is that repeated reports show slower price increases across many kinds of purchases while people still expect inflation to settle near 2% over time, giving both camps reason to wait ^[16][11]. The second starts with a single soft print, driven by gasoline or by the revised calculation, that relaxes the insurance camp and leaves the spending camp where it was ^[18]. A third runs through the labor market. If unemployment rises in repeated reports alongside broader layoffs, CryptoSlate argues, another hike gets harder to justify even if inflation has not improved ^[19].

We think the second path is the likeliest, and that it ends in another increase. September's meeting left most participants unconvinced that the economy was heading to 2% without one, as robust demand and sticky inflation counted for more with them than the pressure high interest rates were placing on some sectors ^[15]. The counter-case is in the same minutes. Some participants judged that wage growth was compatible with inflation getting back to 2%, or that the labor market was not currently a source of inflation pressure ^[13]. If those officials make up much of the spending camp, the group holding out for slower demand is smaller than a unanimous vote suggests, and one good print could be enough ^[13][1].

A skipped hike after one softer report, with layoffs still low and unemployment steady, would prove this view wrong ^[19]. It would mean the insurance motive covered most of the committee, and the officials who think the economy needs higher rates anyway were a minority ^[4].