US: Divided Fed still signaling a rate increase before year’s end – Wells Fargo

Sam Bullard, Senior Economist at Wells Fargo, notes that at the conclusion of its two-day policy meeting, the Federal Open Market Committee voted to keep the federal funds target rate range unchanged while reiterating that any policy move remains dependent on incoming data.

Key Quotes

“This decision to stay put on rates did not sit well with an increasing number of Fed officials. Joining previous dissenting Fed President George were Fed Presidents Mester and Rosengren, all of whom preferred to raise rates a quarter of a percentage point at today’s meeting.

In the policy statement, the Fed’s assessment of the U.S. economy noted that the labor market continues to “strengthen” and that economic activity “has picked up from the modest pace seen in the first half of the year.” The assessment on inflation was unchanged from July, still running below the committee’s 2 percent target.

While the Fed’s assessment of current economic conditions is little changed, there were two inclusions to the policy statement that presented a hawkish tilt towards potential near-term policy action. First, risks to the outlook were described as “roughly balanced”, an upgrade from July’s assessment. Second, the committee “judges that the case for an increase in the federal funds rate has strengthened but decided, for the time being, to wait for further evidence of continued progress towards its objectives.” Together, both statements appear to be the Fed’s way of teeing up financial market expectations for a rate hike before year’s end.

Terminal Rate Continues to Trend Lower

The Fed also released its updated economic outlook and appropriate pace of monetary policy. Revisions were concentrated in 2016 as GDP growth and headline inflation were downgraded (top chart and middle chart), while the unemployment rate was bumped slightly higher. Previous estimates for 2017 and 2018 were unchanged.

As was signaled in Chair Yellen’s Jackson Hole speech last month, the expected path of the appropriate monetary policy, as measured by the dot-plot chart, once again moved lower (bottom chart). One 25 bps hike is implied this year, with two rates hike anticipated in 2017 and 2018 (down from three hikes). The longer-run fed funds rate was also trimmed by 25 bps to 2.75 percent. These changes to the Fed’s rate path are now consistent with our forecast for one hike in 2016 and two hikes in 2017.

On balance, we take policy statement and economic outlook as still supportive to a Fed rate hike before year’s end–our call, December. Clearly, several Fed members are growing increasingly uncomfortable with rates at the current level and may be worried that the long runway to December presents risk that a planned rate hike could be shelved once again.”