The Federal Reserve has increased its main interest rate by 25 basis points. The corridor for the fed fund’s rate is now [1.5 – 1.75%] versus [1.25 – 1.50%] since December 13, 2017. The dots graph which represents FOMC members’ expectations of the fed fund suggests that the US central bank will hike its rate 3 times in 2018 (already one is done), 3 times in 2019 but only twice in 2020. The rate’s profile contained in the dots graph is unchanged even if growth expectations are stronger according to these same FOMC members.
The growth trajectory is expected to be higher in the new forecasts. The GDP growth is anticipated to be at 2.7% and 2.4% in 2018 and 2019 respectively versus 2.5% and 2.1% in December’s forecasts. The unemployment rate is expected to drop way below the current level of 4.1%. In 2018 it is anticipated at 3.8% and in 2019 at 3.6% versus 3.9% in both years in December. Those higher forecasts have almost no effects on the inflation rate trajectory. The core inflation rate is expected to be at 1.9% and 2.1% in 2018 and 2019 respectively versus 1.9% and 2% in December.
The Phillips curve is still out of the picture at a 2/3 years horizon. A stronger growth momentum doesn’t create nominal pressures.
The impact of a more proactive economic policy, mainly fiscal policy, feeds domestic demand leading to higher growth but without nominal adjustment.
Two points to notice
Jay Powell doesn’t want to be behind the curve. It’s an element of today’s hike. The Fed compares itself with investors expectations. That’s a deep change because Yellen thought was not ahead or behind the curve as the ultimate decision on rates came from the US central bank. So being ahead or behind the curve was not an issue, it seems to be one for Powell.
The second remark is that the Fed’s communication policy could change with more press conferences but a different use of the forecasts tables specifically of the dots graph. It’s an important question. Bernanke and after him Yellen have tried to improve the transparency of the Fed’s decision. This could be different with Powell and if it is the case it would create more uncertainty for investors and more surprises in the conduct of the monetary policy. Markets’ participants would have to change their behavior, that’s a development that could be important in coming months.
I still think that the Fed will hike its rate at least four times this year. The current policy mix is not consistent with full employment. Monetary policy is still accommodative even after tonight’s increase and the new White House fiscal policy will boost domestic demand. At full employment this will lead to disequilibria except if the Fed tries to counterbalance these effects by increasing its interest rate more rapidly than expected and on a more aggressive mode. At least 4 would be the best Fed’s answer to the current equation in the US.