We would have to say at the outset that the Minutes to the Federal Open Market Committee July meeting read more dovish in tone than we were expecting. And while we did not expect anything explicitly signaling a hike in September, we did think there would have been at least a bit more of a movement evident towards a consensus on a “sooner” rate hike.
That said, the Minutes are not often an ideal forum to communicate the true thrust of where the Committee consensus is headed, when all the caveats almost by definition have to be duly noted. And that is especially case, we think, when the inflection point on a high stakes, immensely difficult policy decision like a first rate hike after seven years at the Zero Lower Bound is fast approaching.
*** Our initial surprises to the Minutes notwithstanding, we still think a Committee majority consensus will come together for a first rate hike at the September FOMC meeting, albeit we say this with modestly lower conviction. We doubt any of the data points from here will stand in the way of a September rate hike, but we likewise think Fed officials will need to fast harden up their messaging if they are to keep September on the table. ***
*** Our sense in the Minutes of the Committee consensus lean towards September lies in the contrast between the concerns among the “participants” versus the affirmation by “most members” (i.e., the voters) of confidence in the forecast for a fading strong dollar and low oil downward effect on inflation, and above all, on the Phillips Curve-based assumptions for inflation rising to 2% as the labor market slack continues to diminish. ***
The Persistence of Low Inflation
A debate over the risks in the persistence of low inflation was certainly something we expected to see threaded through the Minutes (SGH 8/17/15, “Fed: Counting the Minutes (to Lift-off)”), but nonetheless it would have been difficult not to react to how much space was given to those risks in the broad Committee discussions. And perhaps equally so, it seemed like there was an awful lot of caveat clauses with a “but” or “however” added to the descriptions of the more optimistic takes on the outlook or inflation.
On the other hand, there was not really anything too terribly new in what often felt between the lines to be an almost impassioned debate over the dynamics of the inflation process. Fed officials have been debating for some time whether the developments abroad or in energy prices will continue to weigh down US core inflation measures rather than fading as projected in the central tendency forecasts. And all the forecasts from what we can gather are of a better third quarter and beyond after a second quarter that keeps getting revised up.
And ditto on the absence of wage growth: other than a curiously upbeat bone tossed to Congress by Chair Janet Yellen in her Humphrey Hawkins testimonies on Capitol Hill, we never had any sense of anyone at the Fed really expecting to see much in the way of clear, broad-based wage growth before next year anyway.
More to the point, in a key passage in the “Committee Policy Action” section of the Minutes “in considering the Committee’s criteria with respect to inflation for beginning policy normalization” — which most reflects the policy making lean in the Committee consensus — it was noted that “most members viewed the incoming data as reinforcing their earlier assessment that, although inflation continued to run below the Committee’s objective, the downward pressure on inflation from the previous decreases in energy prices and the effects of past dollar appreciation would abate.”
And so, even if that happy day of inflation rising to its mandate-consistent levels is pushed back to God knows when, into 2018 and probably later in any case, it is still more certain to be moving north, not south, in the steady labor market gains and the diminishing labor market slack. So on that front, it still reads more as an inflation delayed, not denied.