Fed: A Hawkish Leak, Not Dovish

Published on July 27, 2015

We were a bit surprised by the market’s initial dovish reaction on Friday to the accidentally released Federal Reserve Board staff projections for the June Federal Open Market Committee meeting. It was probably in large part due to sloppy wire service reporting that the staff projections of a 0.35% effective fed funds rate was for a year-end figure when in fact it was an average for the fourth quarter.

*** In other words, the Board staff policy rate assumption, at least for 2015, was not dovish, but was in fact quite hawkish relative to where the market is trading. According to the updated release of the leaked projections, the Board staff essentially had a September first rate hike built into their assumptions, and probably a second rate hike in December as well – all that even though core inflation was projected to be only 1.3%. ***

To get to average effective fed funds rate of 35bp through the quarter from the current 13bp or so would by definition mean a first rate hike in September. And we believe it would include a second rate hike in December unless the Board staff were assuming fed funds would trade at a higher 10bp spread over the ONRR throughout the quarter than the current 7 or 8bp spread.

And that from the Board staff that tends to be a bit more pessimistic in its projections compared to the twelve district staffs that all contribute to the central tendency forecasts published in the quarterly Summary of Economic Projections.

A Low Bar

The Board staff projections should probably be taken more as an interesting peek into the thinking and assumptions going into the preparations for an FOMC meeting than anything else. The leak of the staff projections can hardly be seen as forward guidance since they are supposed to be kept confidential for five years, and they will have been revised for the meeting this week, and obviously will be updated for the September meeting.

But that said, that core inflation is only expected to be around 1.3%, the leaked projections would seem to indicate just how low the bar is to a start to policy normalization in September, which we do think is likely as we have been writing for some time (see SGH 3/18/15, “Fed: September and a Shallow Path”).

And if the revisions later this week to the GDP and PCE data points are as strong as seems likely, and are matched by a reasonable Non Farm Payroll print a week from Friday, the market may begin to move its pricing further towards a September first rate hike.

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