Following the Fed’s announcement, please see below for market views from the Global Fixed Income, Currency & Commodities Team (GFICC):
Consistent with our and the market’s expectations, the Federal Open Market Committee (the FOMC) kept the Fed Funds rate unchanged at 1%‐1.25%. Although the Committee kept rates unchanged, they moved forward with plans to normalize the size of the balance sheet starting October 1. In addition, Fed members also updated their Summary of Economic Projections and Chair Yellen hosted her quarterly press conference.
The September statement indicated that the underlying strength of the US economy remains firmly intact. The language on inflation was unchanged. The Committee continues to acknowledge that their preferred measure of inflation is currently running below their target and remains a watch item going forward. The FOMC continues to characterize the path of future rate hikes as gradual. The statement also updated the language related to balance sheet reinvestment in order to indicate the start of a gradual reduction as described in the June FOMC addendum. The statement highlighted the tragedies associated with the recent hurricanes, but indicated it was unlikely to influence the economy’s trajectory.
The market also digested an update to the Summary of Economic Projections. Within the projections, the growth was effectively unchanged for 2018 and 2019. For 2017, the growth outlook was marked upward while the core inflation outlook was altered downward to reflect recent disappointments in the price data. The unemployment rate estimates were cut for the next few years, reflecting the recent improvements. The long-run unemployment rate was unchanged. The median dots were unchanged in 2017 and 2018, but altered slightly in the out years. The median 2019 and long-run Fed Funds rate both declined by ~1 rate hike. The Committee converged upon one more rate hike this year. There was significantly more dispersion in views after 2018, but the median remained unchanged expecting three more rate hikes next year. It is difficult to interpret the forecasts after 2018, as the Committee will look considerably different. The impact of the dots on the market may be declining and this may in fact be intentional as forward guidance should become less relevant as policy normalizes.
We can break the Committee’s statement into parts:
There were no dissenters at the meeting.
At the press conference, Chair Yellen remained optimistic in light of recent labor market and growth developments. The Chair continued to communicate confidence in the Phillips curve, in that tighter labor markets would lead to higher wage and price inflation in the future given the lagged impact. The Chair continues to believe the recent slowdown in inflation over the past few months remains transitory but requires monitoring. Most of the press conference was dedicated toward the balance sheet unwind. She communicated that the balance sheet unwind was a reflection of the underlying strength in the US economy requiring less extraordinary measures. The Chair echoed the information on the balance sheet within the statement and addendum. She also communicated her vision that the balance sheet normalization process would run on “auto-pilot” in the background unless there was a material change in the outlook that caused the Committee to reassess their entire outlook. The Chair went to great lengths to downplay the impact of the balance sheet given the gradual nature and size of the program along with the well telegraphed action. Chair Yellen reiterated that the Fed Funds rate would remain the primary policy tool of policy. The Chair did not discuss her plans nor comment on a successor when her term expires in February.