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© Reuters. FILE PHOTO: Federal Reserve Board Chair Jerome Powell answers a question at a press conference following a closed two-day meeting of the Federal Open Market Committee on interest rate policy at the Federal Reserve in Washington, U.S., November 1, 2023. RE By Howard Schneider

WASHINGTON (Reuters) -The Federal Reserve will conclude a two-day policy meeting on Wednesday, with officials parsing evidence of slowing inflation alongside continued labor market strength and a jump in consumer confidence to decide when it may be appropriate to ease the U.S. central bank’s currently restrictive monetary policy stance.

Policymakers are expected to leave the Fed’s benchmark overnight interest rate in the 5.25%-5.50% range at the end of their meeting, but more importantly they will have to summarize their current views about an economy that is challenging some of the central bank’s basic assumptions.

Inflation, which soared to a 40-year peak in the middle of 2022, triggering an aggressive Fed rate hiking cycle, is slowing while the economy continues to grow at a surprising pace and the unemployment rate shows no signs of any significant rise from historically low levels.

Data on Wednesday showed a closely watched measure of employee compensation costs continued to ease in the fourth quarter, evidence that labor markets continue to support a low level of joblessness even as labor costs fall. The employment cost index, which includes wages and benefits, increased 4.2% on a year-on-year basis in the final three months of 2023. That was down from a 5.1% increase in the fourth quarter of 2022.

The quarterly increase of 0.9% was the lowest since the second quarter of 2021, with smaller jumps in both the wage and benefit components of the index.

Dubbed an “immaculate disinflation” by some economists, the situation has left Fed policymakers in the position of having to decide whether to trust that such a best-of-possible-worlds result can continue and start reducing the policy rate to encourage it, or wait for more data to build confidence that inflation will continue to fall.

The U.S. central bank’s policy statement is due to be released at 2 p.m. EST (1900 GMT). Fed Chair Jerome Powell will hold a press conference half an hour later to elaborate on a decision that could pose communication challenges of its own as the central bank tries to reconcile a pivot towards lower interest rates in an economy that continues to show the sort of momentum that could, all things equal, keep inflation above the Fed’s 2% target.

Yet the pace of price increases continues to slow even as the economy ended 2023 on a high note.

U.S. gross domestic product grew at a 3.3% annualized rate in the last three months of the year, well above what Fed officials consider to be the economy’s long run non-inflationary growth rate of around 1.8%.

The unemployment rate in December remained at 3.7%, while data released on Tuesday showed a sustained high level of job openings that jumped back above 9 million last month – leaving more than 1.4 open jobs for every unemployed jobseeker, well above the ratio of jobs to jobseekers seen before the COVID-19 pandemic.

Yet the Job Openings and Labor Turnover Survey (JOLTS) also showed the rate at which workers are quitting jobs has continued to stay below the level seen before the pandemic threw the U.S. job market into disarray.

Economists consider the quits rate a measure of workers’ ability to switch jobs for higher pay, making it a proxy for changes in wage and benefit costs – with the current data pointing to an easing of labor cost pressures in line with continued progress on overall inflation.

RATE-CUT BETS

Other data may push the Fed in the other direction. A recent Conference Board survey showed consumer confidence jumping to a two-year high, something that could point to ongoing consumer spending at a time when central bank policymakers still feel aggregate demand needs to ease.

“Inflation is on a path to 2%, but data such as these portend slower progress … and may delay the first rate cut,” said Oren Klachkin, an economist at Nationwide.

The slowdown in employment costs last quarter, however, added to investor expectations that an initial rate cut could come as soon as the Fed’s March 19-20 policy meeting. Traders of federal funds futures now put that probability at about 55%, according to CME Group’s (NASDAQ:CME) FedWatch Tool.

Upcoming data that could influence that policy meeting include the Labor Department’s release on Thursday of productivity data for the fourth quarter and the monthly jobs report for January that will be released on Friday.