Macro Report:Dovish FOMC kept rates steady and slowed rate hike outlook at June meeting
Key points:
June FOMC meeting kept the Fed Funds Target Rate unchangedat 0.25-0.5%, with a slowing pace of improvement in the job market,declining inflation expectations, and external uncertainties (such as theupcoming Brexit referendum) impacting the decision
Updated FOMC forecasts indicate lower GDP growth for 2016(down from 2.2% YoY to 2.0% YoY) and 2017 (down from 2.1% YoY to2.0% YoY), but higher core inflation in 2016 (up from 1.6% to 1.7% YoY)and 2017 (up from 1.8% YoY to 1.9% YoY)
June FOMC rate hike forecasts expect two rate hikes in 2H16,three rate hikes each year in 2017 and 2018; 2016 pace unchanged, but2017-2018 pace slowed from earlier expected pace of four hikes per year
July meeting still “live” but rate hike seems unlikely at thisjuncture as economic indicators send mixed signals; September remainsnext key point to watch and we now see just one rate hike in 2016
Comment:
June’s FOMC meeting came in mostly in line with our expectations, with the FOMC sendingdovish signals and keeping rates steady. Keeping rates steady was almost universallyexpected amid the weak employment data and still below target inflation. Additionally, thoughthe FOMC statement didn’t explicitly mention the upcoming Brexit vote, Yellen stated in thepress conference it was among the considerations, particularly given the trend of recent polls.
More importantly, the updated FOMC forecasts sent a clear shift toward a more dovish tone.
Although the median forecasts still indicated 2 rate hikes were on the table in 2016, fiveFOMC members lowered their rate hike forecasts by 25 bp. The pace of rate hikes in 2017-2018 also slowed from 4 hikes per year to 3 hikes per year, indicating a very gradual pace oftightening.
Recent developments have pushed back rate hike expectations and weakened the USDonce again, after a short-lived period where hawkish comments from Fed officials and theApril FOMC minutes elevated expectations for a summer rate hike; the futures market onlysees a 47% chance of a single rate hike within the year.
While July’s meeting is still technically a “live meeting,” current economic and marketconditions do not appear to be particularly supportive for a hike. US real economic data hasbeen mixed; retail sales data over the past two months confirmed a strengthening ofconsumption in 2Q, and net exports have stabilized somewhat amid the weaker USD, whichshould overshadow still weak industrial production data and lead to a rebound of 2Q GDP.
A September rate hike appears more likely, particularly if data rebounds gradually in theupcoming months, but odds appear balanced toward further delays to December, particularlyas the US election race may heat up again as we approach November. The Jackson Holemeeting on August 25-27th may be key for communicating Yellen’s intentions on the rate hiketiming. Reinvestment of QE proceeds should continue until after several more rate hikes.
With the FOMC turning dovish, and a resolution to the Brexit concerns next week on the 23rd,it is possible that overseas headwinds on the market will alleviate toward the end of themonth, and risk appetite may improve.
