Today’s Federal Open Market Committee statement included almost exactly what we would have expected from the FOMC – only not all for today, but in December. The Committee, in effect, pulled forward much of the messaging that by then would have presumably had the more solid data behind it to confirm the confidence in the recovery the Committee instead choose to convey today.
*** Today’s statement gave a small nod but little ground to downside risks, and carefully steered clear of any language that might have given too much credence to the market’s far more dovish expectations. Instead, the Committee reaffirmed its confidence in the likely continued pace of labor market gains — the underutilization of labor market resources is no longer “significant” but is “gradually diminishing” — as well as an aggressive reaffirmation of the FOMC’s inflation outlook, by looking past the near term downward pressures of energy prices and by ignoring the global disinflationary pressures altogether. ***
*** The confident tone to statement’s language, and what the Committee chose to ignore as well as what they tweaked, reaffirms our expectations for the June meeting as the most likely timing for the long awaited rates lift-off. Pricing expectations are coming in from the very dovish pricing of a few weeks ago back towards September, which would certainly be solidified if tomorrow’s GDP print is as strong as expected, while a decent Nonfarm Payroll next week could bring the market more closely aligned with June. That said, it is far too severe of a stretch to infer from the statement today that the odds for lift-off should be moved into March. ***
Downplaying Downside Risks
The Committee did not feel the need to cautiously wait for more data before affirming its confidence in the sustainability of the current pace of growth, but rather chose to downplay the downside drags of Europe or a stronger dollar, or indeed a renewed specter of persistent low inflation or fall-out from recent market volatility.
Instead, all the changes in the statement language marked a clearly more positive tilt, with no more than a glancing acknowledgment of possible feed-through from any such concerns. The FOMC kept the overly debated “considerable time” language in the forward guidance, but they further stripped it of any policy meaning by surrounding it with the far more important changes to the statement.
The one that stands out the most is the change to the labor market description from an underutilization of labor market resources that was previously “significant” to “gradually diminishing.” In hindsight, we guess it would have been hard to square the “significant underutilization” of labor resources when the reason for winding down four years of QE was “substantial improvements” in the labor market.
But still, it seems fairly abrupt to remove any nod at all in the statement to the underemployment that is keeping wage growth so flat. At the least, one might have expected a more gradual shift in the labor market language instead of such a stark change without any signaling beforehand. It suggests its insertion last July was never going to last long and hints at the extent to which it was by now in fact out of place.
Equally important, the Committee also managed to get in the “sooner or later” language into the statement’s guidance, with all that it implies about the time nearing for a rates lift-off, depending of course on the close scrutiny of the data going forward. Again, we thought this was also more likely for the December meeting statement, so it will be interesting to see what it was that has so reaffirmed the Committee’s burst of confidence in the sustainability of the recovery.
So Much for the Yellen Put
The other key shift, and one we did expect (see SGH 10/3/14, “Fed: A ‘Patient’ Reaction Function”) but certainly came as a surprise to markets, was the extent to which the Committee brushed aside the concerns over the return of low inflation, attributing it to being held down by the lower energy prices. Even more tellingly, the Committee took a pass on noting deflationary pressures abroad — the balance of risks remained “nearly balanced” — and they dismissed the market’s focus on falling break-evens or five year/five year forwards as we expected they would (see SGH 10/16/14, “Fed: Not as Bad as All That, Probably”) to instead puts the accent on more stable “survey based” measures of inflation expectations.
Indeed, it is as though the FOMC was ever so sensitive to the market’s leanings in carefully stripping out any wording that might have appeased the hugely dovish pricing of the market or to give any credence to the ever so brief pundit chatter of a “Yellen put.”
Perhaps the most hawkish messaging of all was the removal of the twin dissents by Philadelphia’s Charles Plosser and Dallas Fed President Richard Fisher; and why would they have dissented when they have to have been pretty pleased by the Committee’s take on inflation and the labor market.
It was left to the only uber dove with a vote, Minneapolis Fed President Narayana Kocherlakota, to dissent, but even then it was to hold out for his argument to adhere to a more explicit guidance to guard against falling inflation and inflation expectations, not the statement’s take on the labor market, or the end of QE.
Amid all the changes to the statement, it can almost be overlooked that the FOMC did indeed bring its four years of Large Scale Asset Purchases to an end as expected (unless you were stuck watching CNBC’s countdown to the “nail biter” of a decision). The bond purchases could always be resumed if the need arises, but it will be a pretty high bar from here, and in any case to have made a note of that would have almost certainly gone against the confident tone to the intended policy messaging.