Some 15 months since it first raised interest rates in more than seven years, the US Federal Reserve (Fed) lifted rates for the third time at its March meeting by 25 basis points, raising rates to the 0.75%-1.0% range. Overall the tone of the post-meeting statement and press conference was more dovish than markets had expected as they reaffirmed a gradual tightening path.
Rate rise earlier than anticipated, but dovish in tone
As expected, members voted to raise interest rates by 25 basis points (bps) at its March Federal Open Market Committee meeting, bringing the US Fed Funds rate to the 0.75%-1.0% range. The rate rise itself is largely a non-event. However, markets expected that more robust growth, possible tax cuts and the bring forward of the rate rise to March may signal a more hawkish (favouring high interest rates to keep inflation in check) tone from the Fed – but this was not the case with the statement and subsequent press conference tilting to the dovish side of expectations.
Fed guidance dovish
While markets expected a 25bps hike, they also expected that the Fed would inject a more hawkish tone into their projections and statement – this was not the case.
Key highlights are:
• The Summary of Economic Projections (SEP) was broadly unchanged with only a modest tweak higher in growth in 2018 and slightly higher inflation this year. They have not factored in any lift to growth from tax cuts and extra fiscal spending.
• Markets also expected that the number of members expecting four rate hikes in 2017 would increase but the so-called ‘dot plot’ remained unchanged with most members still expecting three hikes in 2017 (including the current rise) and another three in 2018.
• The post-meeting statement incorporated a slightly more hawkish tone but the changes were minimal and less hawkish than the market had expected. The Fed reinforced that 2% inflation was symmetric and not a target, and that inflation can run below (as it has done) and above without triggering an instant policy response.
• Finally, Chairperson Janet Yellen’s post-meeting press conference carried forward the more dovish tone. She emphasised that the rate hike did not represent a reassessment of the outlook for the US economy or monetary policy and that they remained on a gradual tightening path, stressing that monetary policy remains accommodative with the long-run level of rates around 3%. As usual, she reinforced that “policy is not on a pre-set course.” She noted that fiscal policy is just one factor that may affect the outlook and the projections have not yet built in easier fiscal policy. She also watered down the idea that March was a ‘bring forward’ of rates, emphasising that it was in line with a gradual trajectory. On the balance sheet she reinforced that the horizon is long and no drastic action should be expected.
Implications for investment markets
As markets had likely factored in a more hawkish Fed stance than was delivered, they reacted by weakening the US dollar, shares rallying and bond yields declining. As is usually the case, these moves are likely short term and market pricing will be shaped by data flow and shifts in policy expectations.
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