The Fed’s eight rate-hike since 2015 was perhaps the most anticipated yet, and Jay Powell did not let investors down, delivering the 25bps hike everyone expected.
And so it was – but all eyes were on the dot plots and the language changes in the statement. As Bloomberg noted, Fed policy makers face two important decisions at their September meeting: One, whether to retain optionality around a potential fourth interest-rate increase in December; and, two, the appropriate policy trajectory as rates approach neutral.
Here are the Key Takeaways from the Fed report:
- Only meaningful change in FOMC’s statement is removal of the sentence on maintaining “accommodative” policy.
- The overview of the economy is same as August statement: labor market continues to strengthen, activity “strong.’
The decision to remove “accommodative” signals that the FOMC feels the US economy is getting closer to a neutral policy rate setting, which would be seen as dovish since the FOMC could pause at neutral. However, as Bloomberg notes, the dovish impact from the language is offset by the dots which show the FOMC is full speed ahead for four hikes this year and three hikes in 2019.
According to Neil Dutta from Renaissance Micro, the main news in the statement is that the Fed removed its accommodative language, which might indicate one of two things: “that the Fed is close to the end of hiking or the Fed is moving closer to a restrictive policy setting.”
The Dots: The near-term dots were unchanged, except for the longer-run dot, the so-called r-star estimate, which rose from 2.875% to 3.000%
- 2018 2.375% (range 2.125% to 2.375%); prior 2.375%
- 2019 3.125% (range 2.125% to 3.625%); prior 3.125%
- 2020 3.375% (range 2.125% to 3.875%); prior 3.375%
- 2021 3.375% (range 2.125% to 4.125%)
- Longer Run 3% (range 2.500% to 3.500%); prior 2.875%
The Clarida Dot:
For those wondering whether new Fed Vice Chair is hawkish or dovish, one way to infer his dot is by looking at changes from prior, and what the June vs Sept dots show is the addition of a new dot at 3.375%, which would suggest it is Clarida, and is above the 3.125% median, while in 2020 his dot is likely the 3.625% dot, also well above the 3.375% median. If accurate, this suggests that Clarida is more hawkish than the median FOMC member.
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2019 FOMC rate expectations:
Seven FOMC members favor 2 hikes or fewer, 4 favor 3 hikes, and 5 favor 4 or more. As Bloomberg notes, “that’s a pretty big spread that reflects a lot of division among the committee” however it likely also suggests that it will be easier to get to a consensus as more data comes in.
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- Fed sees 2018 GDP growth at 3.1%, a noticeable upgrade from the 2.8% it saw in June, without any expected breakout in inflation.
- 2.5% in 2019, from 2.4%, suggesting the base case is that trade disputes and tariffs do not detract from growth much at all.
- 1.8% long-term (unchanged), showing continued skepticism that the Trump tax overhaul and cuts in regulations have increased the economy’s growth potential or productivity long term
Since the projections show the policy rate higher than neutral and inflation above target in the outer years, this is yet another admission that policy will have to be restrictive to hold inflationary pressures in check.
Some more details:
Longer-run median unemployment rate 4.5% compares to previous forecast of 4.5% at June 13, 2018 meeting
- 2018 median jobless rate at 3.7% vs 3.6%
- 2019 median jobless rate at 3.5% vs 3.5%
- 2020 median jobless rate at 3.5% vs 3.5%
- 2021 median jobless rate at 3.7%
Longer-run real GDP median projection of 1.8% compares to previous forecast of 1.8%
- 2018 median GDP growth 3.1% vs 2.8%
- 2019 median GDP growth 2.5% vs 2.4%
- 2020 median GDP growth 2.0% vs 2.0%
- 2021 median GDP growth 1.8%
Longer run PCE inflation median at 2.0% compares to previous forecast of 2.0%
- 2018 median core PCE inflation 2.0% vs 2.0%
- 2019 median core PCE inflation 2.1% vs 2.1%
- 2020 median core PCE inflation 2.1% vs 2.1%
- 2021 median core PCE inflation 2.1%
Longer run Fed funds median at 3.0% compares to previous forecast of 2.9%
- 2018 median Fed funds 2.4% vs 2.4%
- 2019 median Fed funds 3.1% vs 3.1%
- 2020 median Fed funds 3.4% vs 3.4%
- 2021 median Fed funds 3.4%
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Full Redline below:
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For some context of just how easy financial conditions are (or put another way, just how much room The Fed has to tighten without potentially pulling the plug on the party), The Bloomberg U.S. Financial Conditions Index – a gauge of financial-market health based on stock, bond and money markets – is approaching the highest levels since 2007…
Ahead of the rate-hike, and dot-lot adjustment, the markets remain dramatically underimpressed by The Fed’s rate trajectory forecast (though we note that FF futs are now flat in 2020 while OIS still sees a potential rate cut)…
IIF’s Robin Brooks points out the 3 key numbers for today’s Fed:
(i) 2.9% estimate for neutral (blue);
(ii) 2020 end-point of 3.4%, i.e. restrictive policy (black); and
(iii) market pricing of 2.8% for 2020 (red).
Neutral (blue) may start moving up today and more next year, which will pull up the red line.
Since The Fed hiked rates in June, the Treasury curve has seen yields rise notably…
But the Yield curve has collapsed…
And the dollar has largely traded sideways…
So despite its apparently hawkish tilt in June – The Dollar has gone nowhere and the yield curve has collapsed – seems like The Fed needs to get the market on board soon.
And cue the “Goldilocks” word before the close…