Fed Sees "Elevated Valuation Pressures", Will Continue "Gradual" Rate Hikes

Moments ago the Fed released its semi-annual Monetary Policy Report which forms the basis of Janet Yellen's testimony to Congress next week, and while it does not traditionally discuss monetary policy it does provide a snapshot of the Fed's take of the economy and capital markets at any given moment. Here are some of the highlights courtesy of BBG:

  • Fed says the outlook for higher inflation appears to be on track
  • Fed sees labor market strong, hourly pay gains moderate
  • Fed: fiscal policy likely to give GDP moderate boost this year
  • Fed: prime-age labor force participation may continue to rise
  • Fed: drag on GDP from higher oil prices likely to be smaller
  • Fed says valuations still elevated for range of assets
  • Fed: vulnerabilities from leverage in the financial sector look low
  • Fed: commercial property valuations continue to be stretched

There were no major surprises in the 63-page report which remains consistent with the Fed’s current outlook which is that strong economic growth and low unemployment require rate rises but that a lack of severe inflation pressures means they can remain gradual.

"Economic activity increased at a solid pace over the first half of 2018, and the labor market has continued to strengthen. Inflation has moved up, and in May, the most recent period for which data are available, inflation measured on a 12-month basis was a little above the Federal Open Market Committee’s longer-run objective of 2 percent, boosted by a sizable increase in energy prices" the Fed said adding that the economy continues to be supported by favorable consumer and business sentiment, past increases in household wealth, solid economic growth abroad, and accommodative domestic financial conditions.

As a result, the Fed “expects that further gradual increases” in interest rates would be appropriate continues to oversee an economic expansion that is now the second-longest on record, a task complicated by the recent break out in global trade war.

Commenting on Trump's fiscal stimulus package, the Fed said that it likely contributed to a rebound in consumer spending from a sluggish start to the year and will likely provide a moderate boost to economic growth this year. This optimistic outlook of the U.S. economy was also referenced by Powell in an interview on Thursday in which he said he believes the U.S. economy remains in a “really good place” with recent government tax and spending programs set to boost gross domestic product for perhaps three years.

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