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Daily Global Commentary

Minutes of April FOMC Meeting − A 2.00% Federal Funds Rate Most Likely For Several Months

Wed, May 21 2008, 22:00 GMT
by Asha Bangalore

Northern Trust

Minutes of April FOMC Meeting - A 2.00% Federal Funds Rate Most Likely For Several Months

The minutes of the April 29-30 FOMC meeting confirm expectations of a 2.00% federal funds rate in the near term. The excerpts below make a case for the FOMC standing pat for several months.

“In light of these significant policy actions, the risks to growth were now thought to be more closely balanced by the risks to inflation. Accordingly, the Committee felt that it was no longer appropriate for the statement to emphasize the downside risks to growth. Given these circumstances, future policy adjustments would depend on the extent to which economic and financial developments affected the medium-term outlook for growth and inflation. In that regard, several members noted that it was unlikely to be appropriate to ease policy in response to information suggesting that the economy was slowing further or even contracting slightly in the near term, unless economic and financial developments indicated a significant weakening of the economic outlook.”

“Participants stressed the difficulty of gauging the appropriate stance of policy in current circumstances. Some participants noted that the level of the federal funds target, especially when compared with the current rate of inflation, was relatively low by historical standards. Even taking account of current financial headwinds, such a low rate could suggest that policy was reasonably accommodative.”

“Although prospects for economic activity had not deteriorated significantly since the March meeting, the outlook for growth and employment remained weak and slack in resource utilization was likely to increase. An additional easing in policy would help to foster moderate growth over time without impeding a moderation in inflation. Moreover, although the likelihood that economic activity would be severely disrupted by a sharp deterioration in financial markets had apparently receded, most members thought that the risks to economic growth were still skewed to the downside. A reduction in interest rates would help to mitigate those risks. However, most members viewed the decision to reduce interest rates at this meeting as a close call. The substantial easing of monetary policy since last September, the ongoing steps taken by the Federal Reserve to provide liquidity and support market functioning, and the imminent fiscal stimulus would help to support economic activity. Moreover, although downside risks to growth remained, members were also concerned about the upside risks to the inflation outlook, given the continued increases in oil and commodity prices and the fact that some indicators suggested that inflation expectations had risen in recent months.”

Inflation remained one of the top most concerns of the FOMC. Although core inflation had improved, it was noted that some of the improvement was due to “transitory factors”. As shown in table 4, the forecast for core inflation in 2008 is now higher than the prediction published in January. Members indicated that inflation expectations could move up if headline inflation remained at an elevated level for an extended period. As of May 20, inflation expectations as measured by the difference between the 10-year U.S. Treasury Note yield less the 10-year TIP rate has risen to 2.47%, up 21 basis point from May 1.

The minutes noted that participants of the April FOMC meeting “saw little indication of a bottoming out in either housing activity or prices.” “The outlook for the housing market remained bleak, with housing demand likely to be affected by restrictive conditions in mortgage markets, fears that house prices would fall further, and weakening labor markets. The possibility that house prices could decline by more than anticipated, and that the effects of such a decline could be amplified through their impact on financial institutions and financial markets, remained a key source of downside risk to participants' projections for economic growth.”

The Fed also published projections for GDP, inflation, and unemployment in 2008, 2009, 2010. These are forecasts of the members of Board of Governors and the presidents of the Federal Reserve Banks. Projections of unemployment rate, the growth of real GDP, of PCE inflation, and of core PCE inflation are central tendencies which exclude the three highest and the three lowest projections for each variable in each year. Tables 1-4 contain the forecasts from the April 2008, January 2008, and October 2007 meetings.

The central tendency of projections for real GDP for 2008, at 0.3% to 1.2%, is lower than the forecast presented in January. The economy is predicted to gain momentum in 2009 and grow at close to or above trend in 2010.

Consistent with the below trend forecast of GDP growth in 2008, the unemployment rate is expected to move up (5.5% to 5.7%) in 2008 (see table 2). As the economy grows, the unemployment rate is projected to edge down in 2009 and 2010.

The revisions of the inflation forecasts for 2008 reflect the steep increase in energy and food prices. The slightly higher predictions for core inflation imply a pass through of higher food and energy prices and the impact from higher import prices. Inflation was predicted to show some moderation by 2010.

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Published on  Wed, May 21 2008, 22:08 GMT

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