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FOMC Hikes, Confident More Hikes to Come

By:  David Sloan Posted:  15 Mar 13:00

Bottom line: The FOMC has raised rates, as expected, with Chair Janet Yellen and the policy statement both making clear that the Fed’s inflation target has nearly been achieved. The median estimates for the end-2017 and end-2018 funds rates went unchanged. Market reaction suggests this is dovish relative to expectations, while the end-2019 median has edged upward.

Figure 1: Fed’s Summary of Economic Projections – March 2017 vs December 2016

 

 

2017

2018

2019

Longer Run

Change in Real GDP

March Projection

2.1%

2.1%

1.9%

1.8%

 

December Projection

2.1%

2.0%

1.9%

1.8%

Unemployment Rate

March Projection

4.5%

4.5%

4.5%

4.7%

 

December Projection

4.5%

4.5%

4.5%

4.8%

PCE Inflation

March Projection

1.9%

2.0%

2.0%

2.0%

 

December Projection

1.9%

2.0%

2.0%

2.0%

Core PCE Inflation

March Projection

1.9%

2.0%

2.0%

 

 

December Projection

1.8%

2.0%

2.0%

 

Fed Funds Rate - Year End

March Projection

1.4%

2.1%

3.0%

3.0%

 

December Projection

1.4%

2.1%

2.9%

3.0%

Source: Federal Open Market Committee, Roubini Global Economics.  Orange indicates a change.

The Rate Hike and the Outlook for More

The FOMC raised the target range for the federal funds rate by 25 bps, as it was widely expected to do. The median estimates for the funds rate targets at the ends of 2017 and 2018 were both unchanged, though there was considerable upward migration in individual “dots” in both years.

Only one “dot” needs to rise in order for the 2018 year-end median to climb to 2.3% from today’s 2.1%. If the economy continues to perform as Fed policy makers anticipate, that shift could easily happen at the June FOMC meeting. The end-2019 median fed funds estimate did edge higher, to 3.0% from 2.9%.

Policy Statement Tilted Toward Optimism

The rate hike and the upward creep in the “dots” were fully justified by changes in today’s policy statement. Perhaps most importantly, the statement recognizes that inflation has arrived at target. February’s statement included this sentence: “In light of the current shortfall of inflation from 2 percent, the Committee will carefully monitor actual and expected progress toward its inflation goal.” Today, that sentence was altered to read thusly:  “The Committee will carefully monitor actual and expected inflation developments relative to its symmetric inflation goal.” The Fed is declaring victory.

There was another positive shift in the statement, recognizing that business investment “appears to have firmed somewhat.” In fact, for the first time in the current expansion, there were no points of weakness included in the description of the economy. One bit of dovish news is that the median estimate for the longer-run unemployment rate edged down to 4.7% from 4.8% in December. There was one dissent against the rate hike, from Minneapolis Fed President Neel Kashkari.

As expected, the FOMC has not announced any change in its policy toward Fed asset holdings, though the topic was discussed.

Yellen Says the Outlook is Unchanged, Looks for More Strength, Gradual Hikes

At her press conference, Fed Chair Yellen stated that monetary policy remains accommodative, but only modestly so. The neutral rate is likely to rise over time, so that the Fed can raise the funds rate target while still providing accommodation. The Fed is near its target for both inflation and employment. The “gradual” pace of rate hikes the FOMC envisions could be the three hikes in 2017 currently seen in the median “dots” estimate, or perhaps two or four hikes.

Yellen was asked what “well underway” meant, in the statement that there would be no reduction in the balance sheet until normalization was “well underway”. Yellen said there is no quantitative definition, but rather a qualitative one. When downside risks are not an issue and the funds rate is well away from zero, the Fed will consider reducing the size of its asset portfolio. Yellen reiterated that the Fed wants to use the fed funds target rate as its principal monetary policy tool, relying on the balance sheet only when the funds rate is near the zero bound.

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