June FOMC Meeting: Slow And Steady With Another Rate Increase

With today’s rate hike, the U.S. Federal Reserve (the Fed) has now taken steps to tighten monetary policy at each of its quarterly press conference meetings dating back to December 2016. The rhythm and predictability of its decisions have helped dampen volatility in financial markets. Indeed, today’s decision to raise the target range of the federal funds rate to 1.75 to 2% was universally expected by economists.1

The details of today’s meeting were slightly hawkish. The Fed’s median interest rate forecasts for 2018 and 2019 both moved up by 25 basis points, but admittedly those changes were quite small. In the 30 minutes surrounding the announcement, the 10-year U.S. Treasury yield rose from 2.95% to 2.99%, the yield curve flattened, and the S&P 500® Index fell by 0.1%.

Rather than obsessing over the likeliest timing of the next rate move (answer: September), we believe investors are better served looking at the big picture. Ultimately, we think there are four big unanswered questions for U.S. monetary policy:

What catalysts would cause the Fed to deviate from the quarterly rhythm it has established?

The hurdle for the Fed to change course is high.

Not too fast

We think a four-hike pace is the speed limit for the Fed in this expansion. A faster trajectory would require hikes at sequential meetings, which would be a big surprise for markets. The dot plot suggests little appetite from the Federal Open Market Committee (FOMC) for a faster pace. And the detailed minutes from the Fed’s May FOMC meeting suggest a willingness to tolerate “a temporary period of inflation modestly above 2 percent.” Translation: Barring a significant surprise in which core personal consumption expenditure (PCE) inflation runs persistently north of 2.5%, we believe the Fed will not speed up.

Not too slow

On the flip side, the unemployment rate stands at a 49-year low of 3.8%.2 The Fed feels content about the achievement of its full employment mandate. And this will likely act as a strong catalyst for the central bank to keep hiking to prevent the economy from overheating over the medium-term. We believe the fact that the Fed was willing to look through downside surprises to both the growth and inflation data in mid-2017 is indicative of their biases in this regard. In our view it would take a major growth scare to derail the Fed—whether that be a geopolitical event that endangers the medium-term outlook or a fundamental recession scare per early 2016.

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Disclosure: These views are subject to change at any time based upon market or other conditions and are current as of the date at the top of the page.

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