FOMC minutes: The inflation debate continues - Rabobank

"The minutes of the December 12-13 meeting of the FOMC confirmed that despite squeezing in a third rate hike before the end of the year, the Committee was still puzzled by low inflation," Rabobank analysts argue.

Key quotes

Many participants indicated that they expected cyclical pressures associated with a tightening labor market to show through to higher inflation over the medium term. These participants generally judged that much of the softness in core inflation this year reflected transitory factors and that inflation would begin to rise as the influence of these factors waned. However, one of them noted that secular trends, such as technological innovation or globalization, could be affecting competition and business pricing, and muting inflationary pressures. 

A majority commented that they continued to expect inflation to gradually return to the Committee’s 2 percent longer-run objective. A few participants again noted that transitory factors had likely held down inflation earlier this year. However, several participants observed that survey-based measures of inflation expectations or market-based measures of inflation compensation remained low, or that other persistent factors may be holding down inflation, which would present challenges for the Committee in promoting a return of inflation to 2 percent over the medium term. In fact, Kashkari and Evans voted against the December hike.

What’s next?

The FOMC projections provided at the conclusion of the December 12-13 meeting showed 3 policy rate hikes of 25 bps each for 2018 and a rise in both headline and core inflation – as measured by the PCE deflator in year-on-year terms – to 1.9% by 2018Q4. Note that while the PCE deflator stood at 1.8% in November 2017, the core PCE deflator trailed at 1.5%. In fact, we think that core inflation will continue to remain well below the Fed’s 2% target during most of 2018. Therefore, we expect only two hikes in 2018 instead of the three hikes that are implied by the dot plot. Since the third hike of last year looked like a leap of faith, we think that the Fed will skip March as an opportunity for the first hike in 2018. Instead, we expect one hike in June and another in December.