As broadly expected, the Federal Open Market Committee (FOMC) unanimously decided to maintain the target range for the federal funds rate at 2.25-2.50%.
FOMC officials downgraded their assessment of current economic conditions. They characterized the labor market as strong, but that the growth of economic activity has “slowed from its solid rate in the fourth quarter”. Also that household spending and business investment has slowed in the first quarter.
Assessment on future policy changes remained unchanged from January. The Committee “will be patient as it determines what future adjustments to the target range may be appropriate”.
FOMC members’ expectations for rate hikes, or rather no hikes, shifted lower from December. The majority (and median) of FOMC members (11 of 17) do not expect to raise rates in 2019, down from a median expectation of two hikes in December. For 2020, the median expectation is for one hike. That is 50 basis points lower than their December outlook. The longer-run expected level of the fed funds rate is 2.8%, unchanged from December.
- The median projection for real GDP growth was downgraded in 2019 (to 2.1% from 2.3%) and 2020 (1.9% from 2.0%). The expectation for growth over the longer run was unchanged at 1.9%.
- The median unemployment rate forecast was raised two-tenths in 2019 and 2020, and one tenth in 2021. The longer-run estimate of the unemployment rate was also moved down a tick 4.3% (from 4.4%)
- On inflation, the median estimate for core PCE was unchanged at 2.0% through 2021.
The Federal Reserve announced details on adjustments to its $4 tn balance sheet normalization process. The Committee is slowing the runoff of Treasury securities from $30 bn a month to $15 bn, starting in May 2019 and will end the reduction in the System Open Market Account at the end of September 2019. The Federal Reserve is attempting to determine the appropriate level of reserves necessary to maintain efficient and effective monetary policy. With the effective fed funds rate pushed right up against the upper bound of IOER, it is assumed that demand for reserves by banks is nearing the steep part of the demand curve. To ensure the effective rate falls in the range desired by the Federal Reserve, it is slowing the reduction of reserves in order to determine this appropriate level.
Key Implications
Given Fed communications, a stand-pat decision today was a done deal, but markets were holding their breath for the Fed’s latest dot plot, and it didn’t disappoint. The majority of FOMC members do not expect to raise rates in 2019, 50 basis points lower than in December. Further out the median expectation is for one hike in 2020, and another at some point between 2021 and the “longer run”, where the rate expectation is unchanged at 2.8%
Given the shift in the Fed’s stance from a hiking bias to patience since December, there was little doubt the dot plot would shift lower versus December, the question was by how much. The answer is pretty clear, given a muted inflation backdrop and global economic and financial developments, the Fed expects this period of patience will last into next year. Treasuries have rallied since the statement. The FOMC median expectation for the path of the fed funds rate is now closer to our own forecast. We await the press conference to get more color from Chair Powell on the thinking behind the downgrade in view and the length of the policy pause.
