Economic Research: Not So Fast! The Fed Holds Rates Steady

Stakes were high for the Sept. 16-17 meeting of the Federal Open Market Committee (FOMC). While Fed watchers were even Stephen on whether the central bank would move today, markets had priced in only a 23% chance that we’d see an increase in rates….


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* Di Beth Ann Bovino, U.S. Chief Economist, Standard&Poor’s, New York


Policymakers did not disappoint. After the FOMC finished its meetings, the Fed decided to keep its benchmark federal funds rate at near zero. The overall growth and labor market assessment since the committee met in July remained positive, with the statement saying “economic activity is expanding at a moderate pace.” Fed Chairwoman Janet Yellen noted in her press conference that “the U.S. economy is impressing us” at the Fed. The statement gave a shout-out to the robust job gains, now saying that “labor market indicators show that underutilization of labor resources has diminished,” ratherthan saying that “a range of” labor market indicators only “suggest” that conditions have improved. The statement even said that “business fixed investment has been increasing moderately,” a more positive assessment than in its July statement, where it “stayed soft.” The statement noted risks to the outlook are still “nearly balanced.”

Still, as Standard & Poor’s expected, the drop in energy prices, global economic issues, and a strong dollar–which has softened exports and weighed on manufacturing–have added to central bankers’  concerns. And the lack of a firm signal from key Fed members, as well as radio silence from Chairwoman Yellen since July 15, certainly didn’t help the case for a September rise.

In line with our thinking, the main reasons the Fed left rates unchanged today, according to the Fed statement, were global problems and financial developments that “may restrain economic activity somewhat and are likely to put further downward pressure on inflation in the near term.” The statement still indicated it will be appropriate to raise rates when the Fed sees further improvement in the labor market and is “reasonably confident” that inflation will move back to the 2% target over the medium term. The decision wasn’t a slam dunk. Given the conflicting messages from various voting members leading up to the event, we expected a dissent–whatever the decision–and we got one. Not surprisingly, FOMC voting member Richmond Fed President Jeffrey Lacker voted against the action, advocating to raise the target range for the federal funds rate by 25 basis points (bps) at this meeting.

A few other Fed members got cold feet on raising interest rates this year, with the number of those who think it won’t rise in 2015 increasing from two in June to four today. Still, the majority of Fed members, about 13, expect an increase in interest rates this year. Standard & Poor’s continues to expect policymakers to raise rates in December. We remained open to the very real possibility that a move would happen today, given continued signs of robust private demand and hiring, as well as a strengthening housing market. On the heels of stronger-than-expected U.S. economic reports in August and September, and continuing growth in the private sector, some at the Fed may have felt that the time to begin normalizing monetary policy is nigh. As Vice Chair Stanley Fischer noted in a CNBC interview on Aug. 28, the situation is always unclear, and monetary policy takes time to kick in, saying, “Don’t overestimate the benefits of waiting for the situation to clarify.”

While a possible move this year from a range around 12.5 bps to one around 37.5 bps is a big statement on where the Fed plans to take monetary policy, on its own it’s not exactly a tectonic shift. The focus really needs to be on the path of the rate hike, not one small number. With that in mind, the Fed continues to indicate a “lower for longer” path of interest rate hikes, with the median exit rate now at 3.5%, rather than the historical average of 4% and 3.8% in June.

Source: ETFWorld.com


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