Fra BNP Paribas:
US FOMC: “Gradual” is the new “measured”
The first Fed rate hike in nearly a decade was executed pretty much according to the script the Fed had led most to expect – a soft lift-off. The language accompanying the hike said that future moves’ timing and extent would depend on the data and how the Fed’s forecast evolved, and that hikes would likely be “gradual”.
There was little change in the forecasts in the Summary of Economic Projections, disappointing some who had hoped the Fed might signal fewer than four hikes next year. The balance sheet adjustment was put on the back burner and, by announcing an essentially unlimited ONRRP (close to USD 2trn), the Fed signaled its determination to get market rates to where it wants them. Despite the Fed’s data-dependent framework, and following the “measured” pace of rate hikes during the 2004-2006 rate hike cycle, the Committee has introduced the expectation of a “gradual” pace of rate hikes, which suggests to us that only a sharp deviation in the data will push the Fed off track.
Policy statement – Beyond the rate hike itself, the most significant change in the statement was that the Committee signaled a “gradual” pace.
– The view of current economic conditions were little changed, with both household spending and business fixed investment still seen as increasing at a solid pace.
– The FOMC saw further improvement in the labor market and characterized the risks to the outlook for economic activity and the labor market as “balanced” and noted that “labor market indicators “will continue to strengthen.”
– Inflation received special treatment, as the Fed is moving to normalize before it has seen this objective met. – Acknowledging that inflation has been falling short of expectations, the Committee will “carefully monitor” progress toward its 2% inflation target.
– The statement noted some deterioration in inflation expectations, with market-based measures of inflation compensation said to “remain low” and “some” survey-based measures acknowledged to have “edged down”.
– Headline inflation is now expected to climb faster to 2% over the medium term than in September, when it was expected to rise “gradually toward 2 percent”. – Overall, the Fed is “reasonably confident” that inflation will rise, over the medium term, to its 2% objective.
– There were no dissents, as expected. Summary of Economic Projections (SEP) – The overall thrust of the economic projections was in line with our expectations, largely unchanged with mild adjustments to the median expectations for growth and inflation, and the long-run (full employment) rate of unemployment stable at 4.9%.
– The “dots” moved only slightly in later years. Median interest rate projections for the end-2015 “dot” was unchanged at 0.375%, along with the end-2016 “dot”, which was unchanged at 1.375%. The end-2017 “dot” was 2.375% (last: 2.625%). The end-2018 “dot” was 3.250% (last: 3.375%). The median long-run estimate was unchanged at 3.50%.
– Detailed changes to the SEP included: 1) an upgraded growth forecast in 2016 (+0.1pp); 2) a 0.1pp drop in unemployment rate expectations (starting in 2016); and, 3) a one-tenth drop in both headline and core PCE inflation expectations. Takeaway – Chair Yellen kept all options on the table and asserted in her press conference that the expectations remain for a gradual pace of policy normalization, while emphasizing data dependence. – Our view is that the Fed is likely to hit a bump in the road that deters its plans to deliver a full 100bp of rate hikes in 2016. See our latest Desknote US: The Fed’s spectacular outlook for more on this.
