The left its target rate unchanged yesterday, but sent clear signals for an upcoming hike later this year. Those include a more hawkish statement, three dissenters in favor of an immediate hike, and the updated interest rate projections (“dots”), which show an overwhelming majority of FOMC members anticipating one hike in the remainder of the year. The interest rate path for the coming years, however, was lowered further, as we expected.
Comments from various Fed officials ahead of this week’s meeting unequivocally revealed that the Committee is split between those, who wanted to raise rates sooner rather than later, and those, who preferred to wait for a bit longer. Amid this constellation, we anticipated that the compromise outcome would be a “hawkish hold”, i.e. no hike today, but a clear signal for an upcoming move later this year. And this is exactly what we got. The minutes will shed more light on the intensity of the debate, but three dissenters in favor of a rate hike (among them usually dovish Eric Rosengren) already speak a clear language.
In addition, the statement was perceptibly more hawkish. It reintroduced the language that the near-term risks to the outlook “appear roughly balanced”, an assessment that had been dropped from the statement in January, and highlighted that “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 toward its objectives.” This echoes one of the key points made by Chair Yellen during her Jackson Hole speech. Lastly, the statement revealed that the Committee now anticipates that labor market conditions will only strengthen “somewhat further” – a subtle hint that the Fed finally acknowledges that the US economy has almost reached full employment. The last signal for a December rate hike comes from the updated interest rate projections (“dots”). It shows, after all, that 14 out of 17 FOMC members currently anticipate at least one hike before the end of the year (to be precise, ten members see exactly one hike, while four see two or even three).
At the same time, the FOMC lowered the “dots” for the coming two years. The median dot for year-end 2017 is now 1.1% (was 1.6%) and for year-end 2018 is now 1.9% (was 2.6%). With the updated outlook for one hike in 2016, two hikes in 2017 and three hikes in 2018, the Fed now has the same baseline forecasts that we had coming into this meeting. And the newly introduced projection for year-end 2019, at 2.6%, is still below the longer-run natural rate, which has come down a tad to 2.9% (from 3%).
To summarize: Today’s FOMC communication – including the statement, the dots, and Chair Yellen’s press conference – should prepare markets for a 25bp rate hike in December and an ongoing, but very gradual removal of policy accommodation in the coming years.
We opened long EUR/USD position at 1.1180 in yestreday’s Trading Strategies Summary released after the Fed decision. Our short-term target is 1.1320, as we see strong of 1.1320/65. However, we expect the EUR/USD to rise stronger in the long term. The market will be more focused on rising Eurozone and less dovish ECB policy now, as the uncertainty around nearest Fed decision has gone away for some time.
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