Instant Analysis: ‘Doves cry’ in the aftermath of the June FOMC statement
The FOMC failed to blink in the face of widespread market skepticism about the Fed’s projected fed funds rate path as it increased the fed funds target range by a quarter percentage point today to between 1.0 and 1.25%.
Neel Kashkari, Minneapolis Fed president, dissented, preferring to maintain the existing target range for the federal funds rate.
Despite another round of weak consumer inflation and retail sales this morning and widespread skepticism priced into the bond market about additional Fed rate hikes in 2018 and 2019, the FOMC largely held firm on its economic, inflation, and fed funds rate projections through 2019 and into the longer run.
The FOMC raised its projection on 2017 GDP growth by a tenth of a percentage point to 2.2%, while holding its forecast for GDP in 2018 and 2019 at around 2.0%. No sign here of a Trump bump in U.S. economic growth projections. Moderate economic growth is expected to continue. The Fed now sees lower average unemployment rates through 2019, as the unemployment rate at 4.3% is already below the projections the FOMC made back in March.
On the other hand, the FOMC lowered its projections on PCE and core-PCE inflation (excluding food and energy prices) for this year by 0.3 and 0.2 percentage points, respectively. The Fed still expects consumer inflation to firm to an average 2.0% in 2018 and 2019. Janet Yellen in her press conference recognized that inflation will remain low over the near term, but the Fed clearly still believes the tightening labor market will drive stronger inflation over the medium-term.
The Fed still plans to implement its balance sheet normalization plan this year. The committee intends to gradually reduce the Federal Reserve’s securities holdings by decreasing its reinvestment of principle payments it receives from its securities holdings. Such payments will be reinvested only to the extent they exceed gradually rising caps.
The FOMC anticipates an initial cap on Treasury securities of $6 billion per month and will increase in steps of $6 billion at three month intervals over 12 months until it reaches $30 billion per month.
The FOMC anticipates an initial cap on agency debt and mortgage-backed securities of $4 billion per month in steps of $4 billion at three-month intervals over 12 months until it reaches $20 billion per month.
The caps are expected to remain at their maximums until the FOMC judges that the Federal Reserve is holding no more securities than necessary to efficiently and effectively implement monetary policy.
Bottom line: the Fed’s hawkishness in today’s statement and economic and interest rate projections seems to have changed few minds on Wall Street about the future path of U.S. short-term interest rates. The probability of another rate hike from the FOMC for September in the fed funds futures market was at 27%, following the statement release this afternoon. This probability is down from 33% in yesterday’s trading. The S&P 500 was down by about a half a percentage point, and the U.S. dollar was flat. Treasury bond yields were generally lower on the day, but did move a bit higher follow the FOMC statement and press conference. We keep our forecast on Fed policy unchanged in the wake of this new information today. We look for Fed balance sheet normalization at the September FOMC meeting and the next rate hike from the Fed at the December meeting.