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Will They or Won’t They?

Author: Robert Eisenbeis, Ph.D., Post Date: March 10, 2017
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The next FOMC meeting is March 14–15. Speculation has now reached a fever pitch that the Committee will indeed decide to raise the policy rate at this meeting. Traders have upped the probability of this happening to 100%. This increase in the probability has been steadily given more and more impetus by a series of speeches by voting governors and by several Reserve Bank presidents. Here is a sampling of some of the rhetoric:

Governor Powell (February 22 speech), summarizing where the Fed is: “All in all, we appear to be close to our employment objective, and are nearing our inflation objective.”  Note:  This was when PCE inflation was at 1.7%. It now stands at 1.9%.

President Williams (February 28): “The median projection was for three increases this year. We stood pat after our meeting a month ago, but we’ll meet again in March to assess whether the time is right to raise rates further. In my view, a rate increase is very much on the table for serious consideration at our March meeting.” (Nonvoting member in 2017)

President Dudley (February 28): “It seems to me that most of the data we’ve seen over the last couple months is very much consistent with the economy continuing to grow at an above-trend pace, job gains remain pretty sturdy, inflation has actually drifted up a little bit as energy prices have increased.” He observed in a CNN interview that the prospects for another rate hike had become “a lot more compelling.” (Permanent FOMC voting member)

Governor Brainard (March 1):  “With full employment within reach, signs of progress on our inflation mandate, and a favorable shift in the balance of risks at home and abroad, it will likely be appropriate for the Committee to continue gradually removing monetary accommodation.” (One of the most cautious of FOMC members.)

Chair Yellen (March 3): “The economy has essentially met the employment portion of our mandate, and inflation is moving closer to our 2 percent objective.… [As] I have noted, unless unanticipated developments adversely affect the economic outlook, the process of scaling back accommodation likely will not be as slow as it was during the past couple of years.”

Vice Chairman Fischer (March 3): “We’ve seen a lot of substantial change in a relatively short time,” Mr. Fischer said of the post-election shift in economic conditions. “There is almost no economic indicator that has come in badly in the last three months.” Asked whether Fed officials were delivering a coordinated message, Mr. Fischer responded wryly, “If there has been a conscious effort, I’m about to join it.” 

Most importantly, we have now heard from four of the five governors and President Dudley.  Governor Tarullo will be attending his last meeting before leaving the board in April and has not commented –. Assuming that Governor Tarullo votes with the rest of the Committee, there is a voting majority for a rate hike should they choose to move in March.

What evidence that they did not have in January will they have upon which to base this move? They got the revised GDP growth number for Q4, which was 1.9%, unchanged from what they thought GDP growth was at the January FOMC meeting; and that growth was achieved largely before the Dec. 2016 rate hike. So their information on GDP growth will be unchanged, except that they will have anecdotal information on Q1 2017 from the Beige Book and other sources. Seven of the 12 reserve banks reported that Q1 growth was modest, which typically means about 2%, give or take. Personal consumption expenditures actually declined from December, due mainly to reductions in spending for services, utilities, and durable goods.

As for their employment objective, the Committee has for some time been convinced, judging from their public statements, that labor market conditions are now consistent with their objective. The key missing data piece here is the employment number, which will be released on Friday. Should employment continue on pace, then the Committee will feel more secure in arguing that there is little risk of a fallback in labor market conditions.

But the biggest change, and difference from the information available at the FOMC’s January meeting, was the most recent PCE price data that showed price rises were up to 1.9% on the headline number, which is what the FOMC has used as the measure for its 2% inflation target. That number and its gradual increases the past several months suggest that the economy is on path and there is little risk that the Committee is behind the curve.

So the case for a rate hike now would largely hinge on three key points. GDP growth is modest but not of concern, and the Committee has now essentially achieved both its employment and price objectives. Indeed, the ADP Research report now projects that 246K jobs were added in February. Should Friday’s number come even close to that – and we know there is far from a one-to-one correspondence between the ADP and BLS jobs numbers – then some may even start to suggest that the labor market is overheating.

The Committee will also provide an update of its summary of economic projections (SEP) to which Chair Yellen may likely refer. At the press conference it will be argued that labor markets are strong and continue to improve and that the Committee’s price target is also now arguably within reach, so now is the time to resume a gradual increase in interest rates.

But this case then raises the question – and some member of the press will surely raise it – “What is gradual?” Are two more rate hikes gradual? Will there be five or so hikes through the end of 2018, as implied by the December dot chart? Is that pace gradual? The answer to these questions is also quite clear: Future rate hikes will be data-dependent.

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