A very dovish read on the recovery – The FOMC kept monetary policy on hold today and made minimal changes to its policy statement, in what we would characterise as a holding pattern ahead of more significant changes at the September meeting. The most important addition to the statement was the description of the recovery so far since the reopening of the economy, with activity and employment having “picked up somewhat […], but remaining well below their levels at the beginning of the year.” In the press conference, Chair Powell pointed to household spending as having recovered ‘about half’ its drop, but that business fixed investment was yet to show a recovery. More importantly, Powell pointed to high frequency credit and debit card data the Fed is seeing as suggesting a renewed slowdown in spending since the end of June, which coincides with the gathering pace of the second wave of the pandemic in the new hotspot states, and is consistent with what we have seen in restaurant dining data. When questioned on this, Powell acknowledged that the renewed slowdown could be short-lived, but a renewed slowdown over the summer is indeed now built into our base case – as discussed in our US Watch published last week.
Stronger guidance likely to come in September – Notably lacking from today’s statement and comments were any specifics on how the Fed’s (currently vague) forward guidance might be strengthened in future. The strongest hint we got of what might be in the pipeline was in Powell’s update on the Fed’s policy framework review. This was originally due to conclude in the first half of 2020, and at the July meeting the Committee discussed potential changes to the Fed’s statement on its longer run goals – a statement that is typically refreshed every January. Powell promised that the conclusion to the review would happen in the ‘near future’, and we think that it is likely to be in time for the September FOMC meeting. In any case, Powell reiterated a line from the June press conference that the Fed is not even ‘thinking about thinking about’ rate hikes, and that the update to the longer run goals statement would be more about ‘codifying how the Fed is already operating’. This is likely to include a commitment to achieving inflation of 2% on average over a sustained period (perhaps a year or more) before interest rates are raised. We do not view this as achievable until well beyond 2021 (our forecast horizon). Beyond interest rates, however, the Fed will have to be more explicit in future meetings on its plans for asset purchases. We expect the Fed to ultimately shift the emphasis here towards yield caps by the end of the year, but whether this is accompanied by a reduction in the current $120bn monthly pace of asset purchases remains an open question.