The FOMC has decided to raise the target range to 0.50% – 0.75%. This 25 bps upward adjustment to the Fed Fund rate was almost guaranteed, as the futures implied probability of an additional hike had increased from ~75% at the beginning of November to 100% in the days leading up to the meeting. There was even a small chance that a 50 bps could have taken place, although the unanimous decision illustrates Chair Yellen’s ability to reign in the four more hawkish Committee members that had previously projected a higher year-end rate.
Growth: The official statement indicated that “economic activity has been expanding at a moderate pace since mid- year,” with a moderate rise in household spending compensating for “soft” business fixed investment. GDP expectations for 2016 were revised slightly higher since the last observation, and now reside at 1.9%. The latest central tendency estimate for longer-run growth (1.8% to 2.0%) was also up modestly from the Fed’s earlier forecast.
Unemployment: With non-farm payrolls adding 178k in November, the statement noted how “the labor market has continued to strengthen.” While the official unemployment rate has declined somewhat to 4.6%, year-over-year wage growth unexpectedly fell back to 2.5%. Defining the perfect natural rate of unemployment is impossible, and it seems likely we’ll go lower from here, but the Committee’s central tendency for longer-run unemployment remains 4.7% to 5.0%.
Inflation: The statement noted how “market-based measures of inflation compensation have moved up considerably, but remain low”. The Core CPI reading for October came in at +2.1% year-over-year, slightly below expectations. The Fed’s preferred measure (Core PCE) continues to reside well below this level at +1.7%. The central tendency projections increased slightly, and now have inflation running at or slightly above the Committee’s 2% objective by 2019, as the “transitory effects of past declines in energy and import prices dissipate and the labor market strengthens further.”
Rate Projections: Importantly, the Committee’s forward looking expectation for rates has shifted upward. The “dots plot” is now projecting three 25 bps hikes by the end of 2017, one more than previously. Expectations for 2018 and 2019 have also been increased by 25 bps each, and the longer-run central tendency has been raised slightly to 3.00%. The Committee confirmed that the actual path of rate adjustments will likely remain gradual and will depend on the economic outlook as informed by incoming data and global financial developments. Worth noting, the market’s futures implied rates had caught up to the levels previously expected by FOMC participants but reacted with surprise (rates up) as this potentially signals a more aggressive policy stance. Perhaps the Committee feels a bit behind the curve?
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