Fed emphasises flexible policy path after likely December hike

Fredrick Soto
December 1, 2018

U.S. Federal Reserve Chair Jerome Powell injected investors with a strong dose of optimism on Wednesday, saying that the central bank's policy rate is now "just below" estimates of a level that neither brakes nor boosts a healthy U.S. economy, comments that many investors read as signaling the Fed's three-year tightening cycle is drawing to a close.

After several years of steadily raising interest rates, Federal Reserve officials discussed this month a more flexible policy of setting rates.

There might be fewer interest rate hikes in 2019.

"We know that things often turn out to be quite different from even the most careful forecasts", Powell said at an Economic Club of NY luncheon on Wednesday.

Next month's expected quarter-point increase would lift the central bank's target for the federal funds rate to a range of 2.25 per cent to 2.5 per cent.

Markets are now trying to divine Powell's plans from data pulling in two directions - rising wages that could be a precursor to inflation, for example, compared to slowing growth and falling oil prices that may keep inflation down, or other indicators clouding the picture.

"Given the volatility you've seen recently, it's probably quite reasonable to expect a little bit of a bounce".

Just on Tuesday, Fed Vice Chair Richard Clarida, in a speech to numerous same economists and investors in NY, used precisely the same language to describe the policy rate as "just below" the range for neutral.

Those remarks sparked a rally in stock and bond markets, while sending the dollar lower. It was 2.95 percent earlier this month, suggesting investors have scratched off a full rate hike from their forecasts of Fed policy. "We still expect the Fed to hike rates twice in the first half of next year, before a slowdown in economic growth to below potential forces it to the side lines", Paul Ashworth, chief USA economist at Capital Economics, wrote in a note. "We now run a larger risk" that communications at the Fed's December meeting will be more hawkish than markets expect, he said.

Market reaction reflected investors' fears the Fed might end up making the kind of mistake Powell talked about - tightening policy too much because of a false read on where neutral is, at a time when clouds had begun to form on the economic horizon.

One additional twist investors will need to adjust to next year will be the potential for rate changes at any of the Fed's monthly gatherings. At the same time, Fed officials are emphasizing they are becoming increasingly reliant on indicators and data to tell them that they are getting close to neutral. "We also know that moving too slowly - keeping interest rates too low for too long - could risk other distortions in the form of higher inflation or destabilizing financial imbalances". Three of those increases have been under Powell.

With a December increase broadly expected, that meeting may stand out more for the fresh economic projections that policymakers will issue, providing a clearer view of how their perceptions of the economy and the proper path for rates may have changed in recent weeks. Last month, Mr Powell said the Fed still had a "long way" to go before it reached that equilibrium.

Other reports by

Discuss This Article

FOLLOW OUR NEWSPAPER