Don't rule out the possibility of a rate cut in March just yet.

During the Federal Reserve's Q&A session, Governor Powell attempted to push away expectations for a March rate cut. However, his remarks during the 60-minute interview significantly impacted the outlook. The likelihood of a rate cut in March is down to 20%, with predictions for the entire year now indicating five rate cuts, a drop from the previously anticipated six.

The strong labor market report from last week has reinforced the argument for maintaining higher interest rates for an extended period. The decision on rate cuts is now expected to pivot more on inflation trends than labor market strength. The upcoming consumer inflation data, expected next Tuesday, is anticipated to show a monthly inflation of 20 basis points, with annual inflation projected to fall to 2.9% from 3.4%, influenced by base effects. Historically, January has seen an average monthly inflation of 40 basis points over the past two decades, with last January's inflation unusually high at 80 basis points.

An analysis based on average inflation rates since 2000 suggests a potential drop in annual inflation to 2.5% from this year's 3.4%, assuming monthly inflations of 40 basis points in January and 46 in February. Should the market's expectation of 20 basis points for January's monthly inflation hold true, and assuming it continues into February, annual inflation could come down to 2.1%. The February year-over-year inflation, the last data point before the March 20th FOMC meeting, is projected to be 2.4%.

Globally, several factors indicate potential for lower inflation in the U.S., including declining inflation rates in Europe, negative inflation figures in China, a 25% drop in the U.N. food price index from its peak, and the continued downtrend in energy and industrial commodities.

Inflation can be categorized into three main components: cost of labor, cost of goods, and cost of capital. Labor costs are currently at 4.5% based on the last payroll data, above the Fed's preferred range. However, the downward trend in goods costs and the start of the rate cut cycle could further reduce inflation, creating a positive feedback loop.

In short, if January and February both report a 20 basis point monthly inflation, the March rate cut becomes a more likely scenario, potentially setting back the stage for up to six rate cuts within the year.

Data source: https://www.bls.gov/cpi/