Fed: The announced normalization

The Fed main interest rate was increased by 25bp at the June meeting of the FOMC. It will now be in the corridor [1; 1.25%]. This is the fourth hike since December 2015 (start of the tightening cycle).
The impact of this monetary policy change has been very limited. The Fed’s communication strategy is to clearly say in advance what it will do. The Fed doesn’t want to create surprises to investors. Therefore investors can adapt their expectations and their portfolios to the new monetary policy stance. The impact of the measure when it is announced is null.
This is interesting notably on emerging markets. In the past, the Fed’s tightening cycle had a strong impact on them as capital flows were back to the US at the expense of emerging countries. Investors were surprised by the Fed’s move. That’s what economists call a sudden stop. Here, no one is surprised so there are no reversal in flows and emerging markets remain strong.

The Fed considers that the economy is now close to full employment (employment rate is 4.3%) and the inflation is close to its 2% target. Therefore it can be rational to increase rates. But as mentioned earlier, the Fed doesn’t want to create too much volatility and to create a persistent shock on the economy. That’s why its measures are announced loudly in advance.  Continue reading

Fed and ECB: monetary strategy convergence is not imminent

This is my weekly column for Forbes.fr. You can find the published version here

The current dynamics of monetary policies is fascinating. 
The US central bank, the Federal Reserve or Fed, has just announced implementation at the end of the year of a policy that breaks markedly with its strategy since December 2008. The Fed finally seems to be coming out of the financial crisis that kicked off in 2007/2008. Meanwhile, the European Central Bank (ECB) is sticking to its very accommodative policy on a long-term basis. The Eurozone is unable to let go of the monetary crutches it adopted after the 2008 and 2012 crises.

The two economic giants’ policies diverge in a number of ways: Continue reading

The Fed is confident

The Federal Reserve has increased its interest rate by 25bp. The fed fund rate will be in a corridor going from 0.75 to 1%. Previously and since last December Fed’s meeting the corridor was 0.5 to 0.75%.
The US central bank will continue to increase its rate and expects two other increases in 2017 to 1.375% (mid-corridor). Three hikes are expected for 2018 to 2.125% and for 2019 the rate will converge to 3% (which is also the Fed’s long term target). For 2017, there is no acceleration when the profile is compared to what was expected in December.

The Fed perceives the US economy as robust. Yellen said that clearly when she answered a question during the press conference. The US central bank said that its two objectives are almost attained. Growth is robust and the inflation rate is close to 2%. That’s a good reason for the central bank to increase its rate. It’s a new step for normalisation.
Growth and inflation forecasts are unchanged when compared to December. GDP growth is expected at 2.1 in 2017 and 2018 (it was 2% for 2018 in December). The inflation rate is at 1.9% and 2% as is the core inflation rate. These are the same numbers than in December.  Continue reading

As expected, the Fed’s rate is up by 25 bp

The Federal Reserve has pushed up its main interest rate by 25 bp. The corridor in which the fed funds can fluctuate will now be [0.50 ;  0.75%] instead of [0.25 ; 0.50%]. The last rate change was December 2015. 
For 2017, the median value of the fed funds rate is expected at 1.375% which means 3 rate increases. The same pace is expected for 2018 and 2019 with rate anticipated at 2.125% and 2.875% respectively. 
The long term equilibrium value for the fed funds is marginally higher at 3% versus 2.9% in September. 

The global Fed’s scenario remains weak. The Fed tells us that the business cycle is still consistent with a secular stagnation framework: low growth, low inflation and low interest rates. The economy is not back to its pre-crisis momentum. 
The long term growth rate is just 1.8% unchanged from September forecasts and the inflation rate is expected to converge to 2% in 2018. It’s also its long term value (as in September) 

I was not able to watch the press conference (no connexion for a video in a train even a TGV) but my perception on the future of monetary policy is unchanged from what I said earlier today (see here)

What can be expected from the Fed’s meeting today?

The Fed will decide, with a high probability, to increase its main rate by 25 bp at its meeting today. The US central bank has mentioned so many times this hike that it has to do it. It’s a question of credibility.
What will happen in 2017?

My analysis
Monetary policy in the current cycle is the main support for the private domestic demand in order to boost growth. This has always be the case but the current situation is specific for three reasons
1 – The world trade momentum is not strong enough to create an impulse on growth. In the past, this momentum was strong and the impulse associated with it was important as it helped the economy to converge to a higher profile. This was important for Europe.
2 – The low productivity momentum in the US has not allowed for a strong rebound after the last US recession. Therefore the US growth pace is lower than before and its impact on the world economy is weaker
3 – Fiscal policies are neutral since 2014. This highlights the role of the private domestic demand in the current environment Continue reading

The Fed is ready for December

In its press release (see here), the Federal Reserve said that pressures on prices are a bit stronger. Therefore the probability of a rate hike at the next meeting in December (13/14) is higher.
Discussions on inflation are the main change seen in the press release when it is compared to the previous one in September.  (see here) The Fed also noticed that consumers expenditures have a lower momentum.
The Federal Reserve wants to have larger margin in the management of its monetary policy and that’s the main reason for the expected change in rates.
The Fed is very attentive to the asymmetric dynamics associated with its monetary policy. Acting too early is taking a risk on the economic activity, the Fed doesn’t want that. It prefers acting later even if it is at the price of higher inflation. We are in this configuration.
It will act in December to have margin but will not send strong guidances for 2017 as there are a lot of uncertainties for the US economy and for the world economy. It wants to keep its ability to manage its strategy without tying its hands. I already mentioned that point here
The target is not to constrain the economy but to have margin without changing too much investors’ expectations. That’s a real challenge

NB: I make the implicit hypothesis of a Clinton victory at next week presidential election. A Trump victory would change the picture. I have wrote (in French here) that the risk with a Trump victory is a negative shock for the global economy. In that case the Fed could be on a wait and see mode.