FOMC Hold Rates Steady, Hints at Upcoming Balance Sheet Adjustment
by Craig Dismuke, Dudley Carter
The FOMC voted unanimously to leave its overnight target range unchanged at 1.00 to 1.25% and continues to expect the data to justify their gradual tightening pace. The Committee’s assessment of the labor market and household spending was upgraded fractionally. The Statement notes that job gains “have been solid,” an improvement from job gains “have moderated.” The Statement also notes that household spending has “continued to expand,” another slight upgrade from the June Statement.
Inflation Running below Target but Not a Concern for Now
As it relates to inflation, the Statement acknowledged the weaker data. The June Statement noted that inflation had “declined recently…running somewhat below 2 percent.” The July Statement stated that inflation is now “running below 2 percent.” However, the Statement reflects no more concern about the below-target inflation, continuing to say that it is expected “to stabilize around the Committee’s 2 percent objective over the medium term.”
Balance Sheet Normalization Expected to Begin “Relatively Soon”
The Committee continues to expect to begin its balance sheet normalization program sooner than later. The June Statement pointed to the program being implemented “this year” but the July Statement tweaked the timing to occurring “relatively soon.” “Relatively soon” has been a key phrase for Fed officials over the past year hinting at pending action. As such, this wordsmithing implies a possible announcement at the FOMC’s next meeting in September.
All told, the FOMC appears to expect to begin its balance sheet adjustment program, or at least announce the timing of its commencement, at their September meeting. While they acknowledge the weaker inflation data, it has not raised enough concern to alter their communications at this point. Fedspeak will be key over the coming weeks as investors attempt to decipher individual views on inflation, the balance sheet adjustment program, and future rate hikes. The communications will begin Friday with Kashkari and continue next week with Mester and Williams.
Risks to the FOMC’s Expected Path:
There remain several near-term risks to the FOMC’s expected path for gradually tightening policy. Most notably, inflation has proven to be weaker-than-expected and more broad-based than the transitory “idiosyncratic” factors cited by the FOMC earlier this year. If inflation does not show some traction, the doves may regain their conviction that slower is better. There are also policy matters which could become factors affecting the FOMC’s decisions. The debt ceiling needs to be raised and the CBO has estimated that Treasury can use “extraordinary measures” to continue funding the government through mid-October. If the debt ceiling is not raised by the September FOMC meeting, depending on how the debate is progressing, it could potentially give the Fed reason to pause for fear of market disruptions. Moreover, there is great uncertainty at present over policy reforms coming out of Washington. With healthcare and tax reform hanging in the balance, how Washington functions going forward could also alter the FOMC’s plans.
FOMC Official Statement
July 25-26, 2017 Meeting
Information received since the Federal Open Market Committee met in June indicates that the labor market has continued to strengthen and that economic activity has been rising moderately so far this year. Job gains have been solid, on average, since the beginning of the year, and the unemployment rate has declined. Household spending and business fixed investment have continued to expand. On a 12-month basis, overall inflation and the measure excluding food and energy prices have declined and are running below 2 percent. Market-based measures of inflation compensation remain low; survey-based measures of longer-term inflation expectations are little changed, on balance.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee continues to expect that, with gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace, and labor market conditions will strengthen somewhat further. Inflation on a 12-month basis is expected to remain somewhat below 2 percent in the near term but to stabilize around the Committee’s 2 percent objective over the medium term. Near-term risks to the economic outlook appear roughly balanced, but the Committee is monitoring inflation developments closely.
In view of realized and expected labor market conditions and inflation, the Committee decided to maintain the target range for the federal funds rate at 1 to 1-1/4 percent. The stance of monetary policy remains accommodative, thereby supporting some further strengthening in labor market conditions and a sustained return to 2 percent inflation.
In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments. The Committee will carefully monitor actual and expected inflation developments relative to its symmetric inflation goal. The Committee expects that economic conditions will evolve in a manner that will warrant gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data.
For the time being, the Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. The Committee expects to begin implementing its balance sheet normalization program relatively soon, provided that the economy evolves broadly as anticipated; this program is described in the June 2017 Addendum to the Committee’s Policy Normalization Principles and Plans.
Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; Charles L. Evans; Stanley Fischer; Patrick Harker; Robert S. Kaplan; Neel Kashkari; and Jerome H. Powell.