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Fed Hikes Rates, Signals Two More in 2018

Karl Schamotta June 13, 2018

In its latest decision, the Federal Reserve lifted benchmark interest rates another quarter point – and upgraded its projections to reflect a total of four hikes in the 2018 calendar year.

In bringing rates back to levels that last prevailed a decade ago, policymakers said, “economic activity has been rising at a solid rate” and highlighted growth in household spending and business investment in limiting downside risks in the outlook. “The committee expects that further gradual increases in the target range for the federal funds rate will be consistent with sustained expansion of economic activity, strong labor market conditions, and inflation near the committee’s symmetric 2 percent objective over the medium term”.

The “dot plot” contained in the accompanying Summary of Economic Projections showed that eight committee members now expect four or more quarter-point rate increases for the full year – tipping the balance of power. In March, the dots were evenly split between officials who saw three and four rate increases in 2018.

Policymakers also forecast a slight overshoot in inflation rates and raised the median projection for economic growth this year. The core personal consumption expenditure index is expected to hit 2 percent in the autumn, before rising to 2.1 percent in 2019 and 2020. The committee expects the economy to expand 2.8 percent in 2018 – up from a 2.7-percent projection in March – 2.4 percent in 2019, and 2 percent in 2020. Output is expected to grow at a more-sedate 1.8 percent in the longer term – suggesting that officials do not view recent government policy changes as transformative, and expect broader economic fundamentals to weaken in the years ahead.

In meeting with media after the decision, Chairman Jerome Powell said that the institution would begin holding press conferences after each announcement date. This step brings the Federal Reserve into alignment with other major central banks and will make every meeting a “live” meeting – but does not represent a change in the policy outlook itself.

Two-year yields surged upward on the release, and the dollar has risen against all of its major counterparts, up roughly half a percent against the euro, pound and yen.

The Canadian dollar is trading on a sharply-softer footing, with trade concerns continuing to weigh on the monetary policy outlook. Odds on a July Bank of Canada rate hike fell toward 60 percent after the weekend’s Group of Six-plus-One meeting and have recovered only modestly in the last few days.

Bottom Line: In today’s decision, the Federal Reserve effectively declared “mission accomplished”, with the economy, job market and inflation rates all on target for sustained growth. However, the decision also compressed the yield difference between 2 and 10-year Treasury instruments to less than 40 basis points – suggesting that markets are increasingly worried about a “hawkish mistake” at the Federal Reserve. In acting too aggressively to tighten policy, the world’s most powerful central bank could yet tip the economy into recession and bring the party to an end. Caution is warranted.

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