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We expect the Fed to keep the Fed funds target rate unchanged at 0.25-0.50% at this week’s FOMC meeting (announcement due Wednesday 19:00 CET).

 As this is widely expected, focus should quickly shift towards the updated projections for the Fed funds target rate (the so-called ‘dots’). We expect the Fed to signal two or three hikes this year (down from four) and four hikes next year (unchanged). The Fed wants to keep the door open for a June hike.

 Our main scenario is that the Fed will stay on hold until September but the probability of a move in June and that the Fed will tighten monetary policy more than once in 2016 has increased due to the rebound in risk sentiment, continued improvement in the labour market and higher PCE core inflation.

 Markets have repriced the Fed and now expect two and half hikes by December 2017. Fed to signal two-three hikes this year We expect the Fed to keep the Fed funds target rate unchanged at 0.25-0.50% at this week’s FOMC meeting. As this is widely expected among analysts and market participants, focus should quickly shift towards the updated projections and, in particular, on the FOMC members’ projections for the Fed funds target rate (the so-called ‘dots’).

If the Fed stays on hold as expected, this would in itself lead to a lower median ‘dot’ this year of 25bp. In our view, this would signal that most FOMC members think that the rough start of the year has merely been a bump in the road. However, just two of the seven members projecting four hikes in December have to lower their individual ‘dots’ more than 25bp before the median ‘dot’ for 2016 would signal two hikes (from four in the December projections).

This would signal that most FOMC members have become less optimistic on the outlook, which warrants that the Fed should carry on more cautiously. Overall, however, given that the labour market continues to perform well, PCE core inflation has been higher than expected in recent months and as we have seen a rebound in risk sentiment, we think that the Fed will keep the door open for a hike in June.

That being said, it is important to remember that all FOMC members, also non-voting members, are making projections and since we assess that most voting members are dovish-to-neutral, we think the median ‘dot’ has a built-in hawkish bias and, in reality, the median ‘dot’ among voting members is probably lower than the overall median ‘dot’. In other words, if the overall median ‘dot’ for this year signals three hikes, it is not unlikely that the median ‘dot’ among the voting members is two hikes. We expect the median ‘dot’ for 2017 to be unchanged, signalling four hikes.

Based on recent Fed communications, it seems as though the Fed’s analysis of the US economy is more or less unchanged: it still expects the economy to grow above trend in coming years and that inflation should move towards 2%, especially if the dollar and oil price stabilise. Just one FOMC member has to lower his/her estimate for the long-term Fed funds target rate before the long-term ‘dot’ is lowered from the current 3.50% to 3.25%.

Financial stress has eased since the last meeting in January Source: Macrobond Financial If two FOMC members currently signalling four hikes lower their individual ‘dots’ more than 25bp, the median ‘dot’ for 2016 would signal two hikes Source: Federal Reserve PCE core inflation has begun to pick up Source: BEA 14 March 2016 Analyst Mikael Olai Milhøj +45 45 12 76 07 milh@danskebank.dk FOMC preview F

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