FOMC: Optimism abounds but restraint remains necessary - Westpac

Elliot Clarke, Research Analyst at Westpac, explains that in recent communications, the FOMC have remained optimistic on the outlook for the economy but reticent to accelerate the pace of tightening and this mind-set remained in place in June.

Key Quotes

“Regarding growth, the median forecast of the Committee edged higher at the June meeting from 2.7% to 2.8% on the back of strength in the labour market and Q2 partial data. The 2019 and 2020 views however were left unchanged at 2.4% and 2.0% respectively, as was the longer-run projection of 1.8%.”

“Most significant in the statement’s characterisation of growth was a switch in the description of consumption from “moderated from its strong fourth quarter pace” to “has picked up”. The point to take from this shift in language is that the slowdown in spending seen in Q1 was temporary and that support for aggregate growth from household demand is expected to remain robust in 2018.”

“The pricing of an additional rate hike for 2018 (four in total) is not a major surprise given the underlying strength of the economy. However, only one participant has shifted their view, hence the change is not definitive. For us, whether we see three or four hikes this year depends on how the long-end of the rates curve evolves. If the 10-year rises materially above 3.00% in the second half, then a total of three hikes is probable. If instead it holds at current levels, a fourth move is possible.”

“On forward guidance in the statement, its removal is not a hawkish signal but rather evidence of the fed funds rate now being much closer to neutral. Four more fed fund rate hikes would see the Committee’s estimate of longer-run neutral (2.9%) reached.”

“In late 2018 and more so in 2019, the reaction of the economy to each hike will grow in significance, as the chance of an outsized adverse reaction becomes much greater.”