Global Daily – Fed takes March rate hike off the table

by: Maritza Cabezas

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In this publication: Wednesday’s FOMC statement reveals a Fed on a wait and see mode. Fed policymakers to monitor global economic and financial developments and implications for labour market and inflation. No change in forward guidance suggests March rate hike unlikely. We expect next rate hike in June, but risks skewed to later. Stocks slip as a result of dovish statement

Dovish statement points to risks of global economic and financial developments

The Fed lived up to its promise to hike rates in December last year, but now a concerned FOMC seems to have opted for a wait and see approach. Indeed, the recent weaker data in the US and the turbulent start to the year in financial markets have not left the Fed untouched. In Wednesday’s FOMC statement, the Fed continued to mention that labour market conditions improved further, but it added that “economic growth had slowed”, instead of mentioning that “economic activity was expanding at a moderate pace”, as was mentioned in the previous statement. Meanwhile, the phrase which mentioned that it saw “risks to the outlook from both economic activity and the labour market as balanced” was now modified to include that they would closely monitor “the implications that global economic and financial developments” could have on the “labour market and inflation”.

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Inflation added to list of concerns

The statement mentioned that the Fed expects “inflation to remain low in the near term as a result of  further declines in energy prices”, but FOMC members expect inflation to rise to the 2% target as the temporary effects of the declines in oil prices dissipate. Recently there has been a further fall in market-based inflation expectations, which could be increasing the downside risks to inflation. On top of this a strong US dollar has been adding to these pressures. As long as oil prices do not at least stabilise and inflation expectations remain low, we think it is unlikely that the Fed will resume rate hikes.

A more cautious Fed, March rate hike unlikely

Given that there was no change in the forward guidance, we think that March is no longer in the Fed’s plans. Although the dot plot revealed that policymakers were forecasting an increase in the federal funds rate in a full percentage point in 2016 in four steps, we think the Fed is no longer sure. We  think the Fed will not hike rates until June. Markets are now only expecting one rate hike this year.

Risks skewed to later rate hike

We continue to expect three hikes this year in all. However, the risks are skewed towards later and less moves.  We think that there are downside risks, related to the strong US dollar, lower energy prices and falling equity prices, which suggests that the bar for more rate hikes has become higher. Indeed, these developments point to tighter financial conditions, leaving less room for rate hikes.

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