Fed still eying a summer hike
Mattias Bruér, economist at SEB, comments ahead of the US Fed interest rate decision tomorrow:
“In all likelihood, the Fed will hold rates steady at the March meeting. The current low probability of a hike – four percent according to future market pricing – is relevant since the Fed wants to avoid big policy surprises at the current juncture. While the recent easing in financial conditions should have eased the committee’s domestic growth concerns, policymakers probably want to see real GDP growth picking up before hiking rates.
“The Fed is most likely to be still looking for policy normalization. While a number of officials may well vote for only two hikes in 2016, the median of the dot plots will likely suggest three hikes in 2016 and four hikes in 2017. Our view is that the Fed likes to see better growth before hiking rates; real GDP growth slowed to just one per cent at an annual rate in Q4 but seems to have picked up to above two per cent in the first quarter. Recession risks have certainly abated in recent weeks as US data has surprised to the high side and financial conditions have improved substantially, thus reversing the tightening seen in January and February. Moreover, the industrial sector is probably at an inflection point too; the most recent ISM manufacturing survey increased substantially and is expected to move back above the 50 level. However, with respect to the policy meeting currently underway, officials may still want to take more time to assess the spill-over effects from financial conditions tightening earlier this year.
“The global growth outlook is a cause for concern too and as such we do not expect tomorrow’s statement to reintroduce the balance of risk assessment that was taken out of the January statement. By contrast, if the statement says that the balance of risks are ‘nearly balanced’, it would be a strong indication that the Committee is paving the way for an interest rate hike within the next few meetings. While we suspect that the Fed is currently eying the June 2014-2015 policy meeting, this is just a week ahead of the Brexit referendum.
“While recent inflation readings have been on the high side, inflation expectations are still depressed. The market-based measures of inflation compensations we follow, five-year, five-year forward breakeven inflation, are unchanged compared to at the January policy meeting. Survey-based measures have been mixed recently; inflation expectations according to the University of Michigan have declined further while expectations according to the New York Fed have bounced higher. As such, we see no need to revise policy language on the inflation expectations.”
