Fed: Defensive Minutes

Published on February 20, 2019

At the outset, we will need to admit that we found the Minutes to the Federal Open Market Committee January meeting to be somewhat defensive in tone and indicating more than the usual amount of indecision. So we will keep our comment for now to just five takeaways:

** First, the Minutes were probably a tad more hawkish than what many if not most in the market were expecting. But as we noted in our most recent report (SGH 2/15/19, “Fed: Twin Tracks”), we thought it highly likely the FOMC was still holding to an “implicit bias to tighten,” albeit conditional on a clear rise in inflation; but however much they may profess a neutral policy stance, there was nothing in the Minutes that would suggest the Fed sees a scenario on the near horizon that would call for rate cuts.

** Along those lines, while the Minutes went to extraordinary lengths to diss the Summary of Economic Projections rate dot plots — “concerns” were expressed they “do not accurately convey the Committee’s policy outlook” — we still expect the March SEP rate dot plot to show a rate hike this year and a still modestly upward rate trajectory despite what is near certain to be a significant flattening of the rate trajectory compared to the projections in December and September of last year.

** It seemed somewhat odd to us how the shift to such a hard “patience” on rates was largely attributed to “global uncertainties” when those same risks were just as present in December as they were in January. Instead, we would note the half-dozen references scattered across the Minutes to “muted” inflation and inflation expectation that had “moved lower in recent months,” along with open questions “whether the recent softness in core and total inflation and inflation compensation would persist.”

** On the balance sheet, the “Long-Run Monetary Policy Implementation Frameworks” section indeed affirmed the floor system with “ample” reserves as something of the path of least hassle, with a hefty “buffer” of reserve above the “minimum quantity on the flat portion of the demand curve” in order to ensure a smoother execution in hitting the policy target rate. They hinted as strongly as they could (i.e. it sure would be “desirable”) that they may announce “soon” an end to the reduction of asset holdings “later this year.”

** We are still a bit unclear if they do indeed favor a “substantial slowing” or taper in the decline of reserves, which we took to mean it could potentially push the end to the balance sheet shrinkage into early next year. But that said, a final reserves balance around the $1.25 trillion mark, probably a little larger seems likely. We still look for an announcement on the final balance sheet plans at the March meeting, the May meeting at the latest, with perhaps the final maturity mix of treasuries and what to do with the MBS holdings coming as a last piece of the puzzle.

** And last, we found the paragraphs on how “the process of balance sheet normalization might be influencing financial markets” a little unsettling and perhaps suggesting the FOMC was a bit more rattled than might be assumed by the December market dislocations. We would not be surprised if the equity market took the professed “flexibility” in their “willing to adjust its balance sheet normalization plans” as affirming the proverbial “put” is alive and well, which many only create additional Fed messaging problems down the road.

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