Fed shift­ing to more cau­tious rate path

Gulf Times Business - - FRONT PAGE -

The Fed­eral Re­serve is ready to shift off a me­chan­i­cal pace of in­ter­est-rate in­creases ev­ery quar­ter and that could mean a slower pace of tight­en­ing next year.

That was the message from Fed gover­nor Lael Brainard, speak­ing on the fi­nal day be­fore of­fi­cials en­ter a black­out pe­riod for pub­lic com­ment ahead of their De­cem­ber 18-19 meeting. She was ham­mer­ing home an ar­gu­ment her col­leagues have also com­mu­ni­cated in re­cent weeks.

“The grad­ual path of in­creases in the fed­eral funds rate has served us well by giv­ing us time to as­sess the ef­fects of pol­icy as we have pro­ceeded,’’ Brainard said on Fri­day at a con­fer­ence in Washington. “That ap­proach re­mains ap­pro­pri­ate in the near term, al­though the pol­icy path in­creas­ingly will de­pend on how the out­look evolves.”

Fed of­fi­cials have left lit­tle doubt that they in­tend to raise the bench­mark lend­ing rate range a quar­ter point later this month. The econ­omy is strong and con­tin­ues to gen­er­ate jobs, and in­fla­tion is around their 2% tar­get. They are not flus­tered by volatile fi­nan­cial mar­kets and con­se­quent tight­en­ing of fi­nan­cial con­di­tions, or a slow­ing in rate-sen­si­tive sec­tors of the econ­omy such as hous­ing. Brainard con­tin­ued to make that point, de­flect­ing a softer-than-ex­pected Novem­ber pay­roll re­port ear­lier on Fri­day to fo­cus on the un­der­ly­ing trend of job cre­ation over the past three months, which she called “well above’’ the pace nec­es­sary to ab­sorb new en­trants. In­vestors widely ex­pect a hike at the De­cem­ber meeting, with pric­ing in fu­tures mar­kets im­ply­ing 70% odds of a move. The out­look for next year has been cut to less than one in­crease. With the Fed’s bench­mark pol­icy rate mov­ing nearer to the bot­tom of the range they con­sider neu­tral – nei­ther slow­ing nor speed­ing up growth – the goal now is to pre­serve the ex­pan­sion and not break it.

The job is more dif­fi­cult than it sounds be­cause mone­tary pol­icy works with a lag. Speak­ing in Dal­las on Novem­ber 14, chair­man Jerome Pow­ell said this risk man­age­ment ap­proach is like walk­ing slowly through a dark room clut­tered with fur­ni­ture.

That anal­ogy points to pol­i­cy­mak­ers feel­ing their way through the near-term data, and, if they have to, paus­ing from time to time. “They are re­claim­ing flex­i­bil­ity,’’ said Priya Misra, head of global rates strat­egy at TD Se­cu­ri­ties LLC in New York. “It isn’t nec­es­sar­ily dovish, but there is a shift in the mes­sag­ing.’’ Brainard’s re­marks on Fri­day un­der­scored that pivot be­cause her use of the phrase “near term” was a clear change in tone com­pared to a speech she gave Septem­ber 12 in Detroit, when she said con­tin­ued grad­ual hikes were likely to be ap­pro­pri­ate “over the next year or two.” While not­ing that a ro­bust labour mar­ket, con­sumer spend­ing and fiscal stim­u­lus are keep­ing the econ­omy strong, Fed of­fi­cials are also point­ing to a grow­ing list of down­side risks.

Brainard cited the UK’s de­lib­er­a­tions over Brexit and Italy’s debt trajectory. In the US, busi­nesses are re­port­ing uncer­tainty about trade pol­icy and the im­pli­ca­tions that may have for sup­ply chains. That could weigh on cap­i­tal spend­ing, she said.

Fed Board vice chair­man Richard Clar­ida said cen­tral bankers glob­ally should still be con­cerned about dis­in­fla­tion­ary forces.

“In re­cent decades, the asym­me­try has been to­ward dis­in­fla­tion forces,” Clar­ida said in an in­ter­view with Bloomberg Tele­vi­sion on De­cem­ber 3. Asked about the price im­pacts of glob­al­i­sa­tion, he said that “we are in a world where cen­tral banks, in­clud­ing the Fed, are fo­cused on keep­ing in­fla­tion away from dis­in­fla­tion.”

Fed of­fi­cials are also aware that the econ­omy is over­shoot­ing their es­ti­mates for po­ten­tial growth and full em­ploy­ment. That’s an up­side risk, which is why they haven’t sig­nalled yet that think an ex­tended pause in rate hikes is ap­pro­pri­ate. There is also lots of anec­do­tal ev­i­dence reach­ing their 12 re­gional re­serve banks about worker short­ages and higher wages, ac­cord­ing to the lat­est Beige Book re­port re­leased on De­cem­ber 5.

“We knew this day would come,” said Carl Tan­nen­baum, chief econ­o­mist at North­ern Trust Corp in Chicago, re­fer­ring to the Fed’s strat­egy shift. “Hav­ing closed most of the ground be­tween zero and neu­tral, the last few steps are go­ing to be the most freighted.”

The US Fed­eral Re­serve build­ing stands in Washington, DC. Fed of­fi­cials have left lit­tle doubt that they in­tend to raise the bench­mark lend­ing rate range a quar­ter point later this month. The econ­omy is strong and con­tin­ues to gen­er­ate jobs, and in­fla­tion is around their 2% tar­get.

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