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Fed may stick with one more rate hike even as inflation cools

FILE PHOTO: The U.S. Federal Reserve building is pictured in Washington

By Ann Saphir

(Reuters) -Federal Reserve policymakers may take some comfort from data on Friday showing a key gauge of inflation cooling in February, but it's far from clear if it marks enough headway for U.S. central bankers to end their year-long campaign to hike interest rates.

The Commerce Department reported that personal consumption expenditures (PCE) price index rose 5.0% in February from a year earlier, down from the 5.3% increase in January. A measure of core inflation - seen as a better gauge of future price increases - came in a shade lower than expected at 4.6%.

But with the Fed targeting 2% annual inflation, central bankers will likely be wary about declaring victory too soon.

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It is "early days yet in terms of assessing whether we really have gone as far as we need to go," Boston Fed President Susan Collins said in an interview on Bloomberg Television on Friday.

Potentially worrisome to central bank policymakers may be continued pressure in services inflation, excluding housing, a measure that Fed Chair Jerome Powell has said he is watching carefully.

KPMG's Diane Swonk said she estimates the latest reading puts the year-over-year rise in core services inflation at 4.6%, up from the 4.4% pace in the fourth quarter of 2022. That stickiness could prompt the Fed to do more and risk an "overshoot on rate hikes and a deeper, more scarring recession," she said.

Pricing of futures contracts tied to the Fed's policy rate implied a slightly better-than-even chance the central bank will stand pat at its May 2-3 policy meeting, reversing previous bets that it was more likely to raise its benchmark overnight interest rate by a quarter of a percentage point to the 5.00%-5.25% range.

Traders also were betting more heavily that the Fed would start cutting rates as soon as July, with the policy rate seen reaching the 4.25%-4.50% range by the end of this year, based on interest-rate contract pricing.

Fed policymakers earlier this month signaled that most of them expect one more quarter-of-a-percentage-point increase this year and, contrary to market expectations, they don't plan to deliver any interest rate cuts until 2024.

They will have plenty more economic data to weigh in the countdown to their next policy meeting, including a monthly read on the job market next week and further data on inflation due later in April.

Even more important will be their read of stress in the banking sector following the collapse of Silicon Valley Bank and Signature Bank earlier this month, including whether tightening credit conditions are slowing demand enough that further rate hikes would be overkill.

(Reporting by Ann Saphir and Howard Schneider; Editing by Paul Simao)