At the 13 June meeting, the Federal Open Market Committee raised the target range for the federal funds rate by a quarter point to 1.75-2.00%, marking the seventh increase in US interest rates of the current cycle.
The monetary policysetting FOMC signalled two more increases were likely in 2018. Cedric Scholtes gives his analysis of the meeting.
This FOMC meeting provided some revelations that clarify the Fed’s intentions:
- The FOMC’s median projections confirmed that in total, four rate rises (two done with two more to come) were likely in 2018 (this was expected), followed by another three in 2019.
- The median ‘dots’ (interest-rate forecast) released by the FOMC shows interest rates would reach the 3.4% peak rate projection earlier, since a rate rise was added to the end-2019 projection (this was not widely anticipated).
- Chairman Powell clarified in the news conference that inflation ‘symmetry’ referred to a tolerance for a temporary over- or undershoot of inflation versus target. He noted that persistent deviations from the target would not be countenanced, and that “price-level path targeting is not something the Committee has looked at seriously, and not something that is on the calendar right now”. In our view, this was a clear confirmation that speculation about a possible change to the FOMC’s policy framework is premature.
What are the implications of the June 2018 FOMC meeting?
- The FOMC looks set to continue raising rates at steady, gradual pace (i.e. once a quarter), in both 2018 and 2019. Rates are likely to peak at around 3.50% in 2020, but we note that market pricing via Overnight Index Swap Curves (OIS) suggests a peak rate at around 2.70%, suggesting US rates are likely to rise more than the market expects in the 2- to 5-year sector.
- The rejection of price-level path targeting suggests inflation will not be allowed to significantly and persistently deviate too far from the target. This weakens the argument for rising inflation expectations based on the thesis of a permissive monetary policy regime. It weakens the case for a steepening of the nominal US Treasury yield curve. If inflation is to remain close to target, and the FOMC is hawkish, then more yield curve flattening cannot be excluded.
Interest-rate forecasts (median ‘dots’) released by the Federal Reserve in June 2018 and March 2018 for the path of the fed funds rate compared to the market forecast based on fed fund futures contracts on 14/06/18
Source: Federal Reserve, Bloomberg, BNP Paribas Asset Management, as of 14/06/2018
The FOMC’s relatively hawkish tone at the meeting in June argues for flatter Treasury curves, rises in interest rates on short-dated Treasuries, and a flat breakeven inflation yield curve.
Chairman Powell’s initial rejection of price-level path targeting as a potential innovation for the policy framework is also not encouraging for those expecting rises in long-dated inflation expectations.
The data for core US CPI inflation in May was disappointing, even though recent average hourly earnings numbers were more robust. As a result, we are still waiting for a catalyst for a further widening of breakeven inflation rates.