Fed: Framing December

Published on September 20, 2017

The most immediate takeaway from today’s Federal Open Market Committee meeting was a more hawkish consensus on rates normalization, including the probability for a December rate hike, than what some in the market might have expected. 

*** We continue to believe, on balance, that a third rate hike in December is more likely than not. Judging from the dot plot, the Summary of Economic Projections, and the confident tone to Chair Janet Yellen’s remarks, it would appear the base case rate path and policy framework we laid out earlier this week is, if anything, enjoying an even stronger consensus of support (SGH 9/18/17, “Fed: September Signals”). ***

A couple of additional points:

** It is important to note, however, that Chair Yellen was careful, as we suspected she would, to give voice to the dovish doubts of some Committee members, noting the FOMC is still seeking to understand whether the recent turn lower in inflation is indeed transitory as the majority believes, or whether there is something more fundamental going on that is pulling the underlying trend inflation structurally lower. ***

** That in some ways is as important as the hawkish overall tone to today’s takeaways, as in effect, it neatly sets up a way to frame the upcoming heavy slate of speeches by FOMC members that will largely focus on the nature of inflation dynamics. Chair Yellen herself is giving three speeches in October, including one we would highlight in advance, the October 20 speech before the Economic Club of Washington.

** Despite the speculation over the median 2017 rate dots possibly slipping to no hikes, by all accounts the base case for a third rate hike this year looks to have strengthened with a solid eleven of sixteen Committee members penciling in one more hike this year (including one two-hike dotter, we will assume to be Richmond). “The fact that inflation is unusually low this year does not mean that that’s going to continue,” Chair Yellen cautiously noted.

** We thought Chair Yellen’s point that while rates are currently not all that far from neutral, that the current neutral rate will nevertheless be rising as the economy continues to improve and thus warranting the continued pace of rates normalization was an important one. It is a major point of contention as the more dovish are deeply skeptical the neutral rate will be rising all that much in coming years.

** Along those same lines, as we thought likely, the new 2020 rate dot plot showed a majority of the Committee penciling in an outright tightening, with nine members marking rate projections well above or just above the newly lowered median longer run neutral rate of 2.75%. Interestingly, there were no significant marks lower in longer run unemployment or trend growth estimates.

** While the Committee conceded the obvious with the 2017 core inflation projection dropping to 1.5%, they then had inflation practically surging to 1.9% next year. That reflects the base view that the current transitory low inflation drivers will be falling out of the data while the underlying upward pressures of a tight labor market will be pushing inflation higher. 

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