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United States Monetary Policy January 2019

United States: Federal Reserve signals halt to interest rate hikes in January, confirming dovish turn

At its 29–30 January monetary policy meeting, the Federal Reserve’s Open Market Committee (FOMC) unanimously voted to maintain its target range for the federal funds rate at 2.25%–2.50%. Beyond the rate decision, which was widely expected, the January meeting was significant because of the dramatic change of tone in the Fed statement. Of particular note, it suggests a marked slowdown, if not a complete halt, to interest rate hikes in the year ahead. The Fed also signaled more flexibility with regards to the planned reduction of its balance sheet, which had ballooned by more than USD 3 trillion in the years following the 2008 financial crisis as the Fed pursued quantitative easing policies.

After a significant dovish turn in December, when FOMC members revised down their interest rate forecast for 2019 to signal one less hike, the January meeting all but confirmed the policy shift towards a more premature end to monetary tightening than previously envisioned. Some market participants even saw the meeting as indicating a return of the “Fed put”, or the idea that the Federal Reserve would stand ready to come to the rescue of financial markets in periods of increasing volatility. Indeed, the shift in the Fed’s tone followed a rocky period for equity markets towards the end of last year, as participants grew increasingly worried about a domestic and global growth slowdown, trade protectionism, and the compounding negative effects steady interest rate hikes could have on the U.S. and the world economy more broadly.

Analyzing the statement in closer detail, the Fed’s tone changed in two important respects in January. First, the FOMC communiqué removed language referencing the appropriateness of further gradual interest-rate increases, which had been part of the Fed’s policy statements since 2015. Instead, it declared that “the Committee will be patient as it determines what future adjustments to the target range for the federal funds rate may be appropriate” and reaffirmed that the Fed would take into account “financial and international developments”, in a clear nod to markets. Furthermore, in a separate statement as well as during the post-meeting press conference, FOMC members signaled that they were continuing to discuss and debate the appropriate path for balance-sheet normalization, and that the process was likely to be more incremental and flexible than previously expected. Notably, due to higher demand for reserves, Chairman Powell indicated that “normalization of the size of the portfolio will be completed sooner, and with a larger balance sheet, than in previous estimates”. When asked if these statements meant the end of the hiking cycle, Powell responded that the “length of this patient period is going to depend entirely on incoming data and its implications for the outlook”.

Looking ahead, analysts interpreted the January meeting as confirming a March rate hike was off the table, and a number of FocusEconomics panelists now expect no rate hike until the end of Q2. Analysts at Nomura, for example, “expect only one rate increase in 2019, down from our previous forecast of two, likely occurring sometime during H2 2019”. They also added that “today’s meeting suggests that the FOMC will probably start to expand its balance sheet again late this year or early next year”. Analysts at Goldman Sachs concurred, noting they “viewed both the January statement and press conference as dovish and have reduced [their] subjective odds of a March hike to less than 5% (from 10% previously) and [their] Q2 hike probability to 25% (from 55% previously)”. James Knightley, chief international economist at ING, meanwhile, predicted that “we are unlikely to see an interest rate rise in the first quarter”, although he believes “there is a decent chance of a move in June”. Supporting this point, he went on to say that if “the strength of the US jobs market persists and wages keep rising the consumer side should help support growth and generate a little more inflation”.

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