Global Daily – Fed prefers to wait-and-see

by: Maritza Cabezas , Georgette Boele

FOMC raises rates and maintains gradual pace of rate hikes

As expected FOMC policymakers raised the target range for the federal funds rate a quarter point to 0.75-1% in the March meeting. The “dot plot” which provides the forecasts for the target range for the fed funds rate, was changed slightly, showing only a slight increase in 2019. The “dot plot” shows that the Fed continues to expect two additional rate hikes this year and two rate hikes next year. However, this path is not different from the median path for the federal funds rate compared to the December meeting. In 2017 and 2018, the median federal funds rate is unchanged at 1.4% and 2.1% respectively. In 2019 it increased to 3% from 2.9% in December’s forecast. Markets saw this as dovish, since expectations of four rate hikes this year were dashed.

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FOMC statement shows that inflation is not a concern for the Fed

The FOMC statement was adjusted to show that inflation has ‘increased in recent quarters, moving close to the Fed’s 2% longer-run objective’, but added that ‘excluding energy and food prices, inflation was little changed and continued to run below the 2%. This adjustment captures the recent rise in headline inflation, mainly as a result of higher energy prices, but tones down any concern by adding that core inflation has been stable for some time. The FOMC statement also showed a more positive tone regarding fixed investment.

Economic forecasts

The Summary of Economic Projections were barely changed in comparison to the projections made in December. As mentioned the Fed does not see inflation pressures building up and has kept near term and long term inflation forecasts at the same level as in December. The projections of unemployment were not changed either, while GDP growth slightly increased in 2018 to 2.1% from 2%. Chair Yellen mentioned that changes in fiscal policies could change the outlook, but until now there was not enough information to change the forecasts. 

Chair Yellen’s press conference

During the press conference, several questions were raised relating to the gap between strong confidence indicators and the somewhat weak “hard data” in the first quarter. Chair Yellen mentioned that the FOMC recognises that confidence has been improving. However, she added that business contacts were adopting a wait-and-see approach, despite their optimism. Chair Yellen mentioned that the Fed would be watching if the shift in expectations would eventually affect the outlook. When asked why the Fed was moving now despite the somewhat weaker economic data in the first quarter, Chair Yellen mentioned that GDP growth data tends to be volatile. Chair Yellen made clear that she had confidence in the robustness of the economy. She asserted that certain indicators from the labour market had been improving for some time, particularly the labour participation rate. On top of this, she added wage growth is gradually moving up, while monetary policy will remain accommodative. In terms of consumption, she mentioned that job security should support consumption growth.

However, she was less inclined to signal strongly that future changes in fiscal policy would support economic activity. Chair Yellen mentioned that there was still great uncertainty about the timing and the size of the policy changes. She added that some participants had pencilled in some policy changes, but that FOMC policymakers were not inclined to speculate about future policies. Overall, we expect that the Fed will continue to hike interest rates at a gradual pace. We expect the Fed will hike two more times this year, in June and September.  The risk is to the upside, given that we could potentially see a significant fiscal stimulus announced later in the year, which still needs to be factored into to the FOMC’s forecasts. (Maritza Cabezas)

Global Markets: USD struggles

Ahead of the Fed decision financial markets were positioned for a 25bp rate hike and a more hawkish tone in the statement by changing the wording and via an upward adjustment in the “dot-plot”. The Fed did not meet these expectations as instead signalled a gradual approach with two more rate hikes this year. As a result, US Treasury yields and the US dollar declined, while gold prices rose again. The US dollar is struggling. It failed to rally on strong data and higher nominal yields (because inflation expectations also rose). Meanwhile a less hawkish Fed has weighed on the US dollar. It is likely that the US dollar rally has come to an end and that more downward pressure is building in the near-term. We also think that weakness in the gold price is over for now and a move back towards USD 1,250 is on the cards in the coming weeks (Georgette Boele).