Fed Scales Back Rate-Rise Forecasts

Federal Reserve officials held off from raising borrowing costs and scaled back forecasts for how high interest rates will rise this year, citing the potential impact from weaker global growth and financial-market turmoil on the U.S. economy.

The Federal Open Market Committee kept the target range for the benchmark federal funds rate at 0.25 percent to 0.5 percent, the central bank said in a statement Wednesday following a two-day meeting in Washington. The median of policy makers’ updated quarterly projections saw the rate at 0.875 percent at the end of 2016, implying two quarter-point increases this year, down from four forecast in December.

“The committee currently expects that, with gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace and labor market indicators will continue to strengthen,” the FOMC said. “However, global economic and financial developments continue to pose risks.”

Kansas City Fed President Esther George dissented from the decision, preferring a quarter-point rate increase.
Fed Chair Janet Yellen is scheduled to hold a press conference at 2:30 p.m. in Washington to explain the committee’s decision.

Slower Pace

Weaker-than-forecast global growth has clouded the U.S. outlook and led investors to expect a slower pace of tightening since the Fed raised rates in December for the first time in almost a decade. Yellen said in February that market turbulence had “significantly” tightened financial conditions by pushing down stock prices, causing the dollar to strengthen and boosting some borrowing costs.

“Economic activity has been expanding at a moderate pace,” with household spending gaining amid “soft” company investment and net exports, the Fed said. While inflation has “picked up in recent months,” market-based measures of inflation compensation are still low, the central bank said.

The median of Fed officials’ projections, known as the “dot plot,” saw the federal funds rate at 1.875 percent at the end of 2017, compared with 2.375 percent forecast in December. The end-2018 level fell to 3 percent, from 3.25 percent, with the longer-run projection at 3.25 percent, down from 3.5 percent.

Policy makers maintained their projections on how soon inflation will return to the Fed’s 2 percent target, while cutting their inflation forecast to 1.2 percent this year from 1.6 percent. Officials still see the preferred price gauge rising 1.9 percent in 2017 and 2 percent in 2018.

Officials maintained their forecast for a 4.7 percent U.S. unemployment rate in the fourth quarter of this year. The median projection for 2017 fell to 4.6 percent from 4.7 percent, and in 2018 to 4.5 percent from 4.7 percent. The rate stood at 4.9 percent in February.

Labor Market

“A range of recent indicators, including strong job gains, points to additional strengthening of the labor market,” the FOMC said.

The Fed reiterated that the “stance of monetary policy remains accommodative, thereby supporting further improvement in labor market conditions and a return to 2 percent inflation.”

Economists in a Bloomberg survey conducted earlier this month put the probability of an April rate increase at 15 percent and chances of a June move at 42 percent. That compares to market-implied projections of 25 percent for April and 54 percent for June, according to pricing in fed funds futures as of Tuesday.

Fed officials have differed publicly about economic prospects, with Governor Lael Brainard on March 7 arguing for patience in tightening monetary policy while Vice Chairman Stanley Fischer on the same day pointed to the “first stirrings” of inflation.

Yellen and her colleagues have singled out uncertainty over China’s outlook as a risk to U.S. growth.

The domestic U.S. economy has mostly been solid, however. Payroll gains have averaged 235,000 over the last six months as the jobless rate matched the Fed’s goal for maximum employment, though measures of long-term unemployment and wage growth suggest the labor market still has room to grow.

Inflation Mandate

Some progress has also been made on the inflation side of the Fed’s dual mandate. The personal consumption expenditures price index, which the Fed targets at 2 percent annual gains, rose 1.3 percent in January from a year earlier, after 13 consecutive months with rises below 1 percent, owing to a slide in energy prices.

The separate consumer price index released Wednesday showed prices, excluding food and energy, rose by a greater-than-anticipated 0.3 percent in February from the previous month.

Oil prices have surged around 40 percent since mid-February, when the cost for a barrel of crude fell to about $26, the lowest since 2003.

U.S. stock markets, which had slumped by more than 10 percent by mid-February from the start of the year, have also regained ground, with the Standard and Poor’s 500 Index now down just 1.4 percent this year through Tuesday. Meanwhile the dollar, whose strength in 2015 hurt U.S. exports and dented growth, has slipped about 1.3 percent against a broad basket of currencies since Dec. 31.

International Easing

The Fed’s tightening bias contrasts with aggressive easing abroad.

The European Central Bank unleashed another round of unprecedented stimulus last week that included a cut in a key interest rate further below zero.

In Tokyo, the Bank of Japan held fire on further stimulus Tuesday but laid the groundwork for additional easing after cutting its deposit rate to minus 0.1 percent in January.

China’s central bank cut the main interest rate to a record low in six successive reductions through October, and recently made another reduction to the required-reserve ratio for major banks.

Bloomberg

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Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell