The Daily Update - Data Dependence and U.S. Monetary Policy

Jerome Powell assumed the Chairmanship of the Federal Reserve now almost 10 months ago; but only now will the 16th Fed Chair really start to hold the market’s attention. For in his inaugural months as Chair, Powell has been steering a ship that has mostly been on autopilot. And although Trump has this week lambasted him for how the Fed’s rates policy has not aligned with his politicised perspective, even blaming him for the ongoing troubles at GE, the Fed has been ‘following’ the widely anticipated path for rates that seemed largely in motion from before Janet Yellen stepped down.

The latest Fed minutes are released tomorrow with hopes for a confirming signal for what could well be the last regular quarterly hike of the Fed Funds Target Rate. Thought this is still far from certain with an implied probability of 23% for rates to remain on hold for the rest of the year – given all the trade diatribe, recent volatility across emerging market/stocks/oil, and apparent weaknesses showing up in global growth. But regardless of what happens on the 18-19 December Fed meeting, the markets have enjoyed/endured a year of relative confidence in the likelihood of either 3 or 4 hikes for 2018.

Looking forward to 2019 and beyond such predictable regularity will no longer be the case; both FOMC members’ expectations and implied probabilities for 2019 are fairly evenly split across 1, 2 or 3 anticipated hikes. So the Fed will again be relying more heavily on fresh economic data to form a consensus: not only for the near- and long-term rates path but also to assess what neutral and unemployment rates are consistent with modest and stable inflation. This is what Fed Vice Chairman Richard H. Clarida focused on in his speech yesterday on “Data Dependence and U.S. Monetary Policy”.

But FOMC members have unilaterally stressed their cautious approach to inflation, unemployment and growth data where they can be prone to spikes and revisions. One example is the Fed’s higher regard for core PCE data (latest published tomorrow) over CPI as a less volatile measure for shaping their inflation outlook. Powell also stresses the importance of dialogue with businesses on their own outlook and not just on data, “You pick things up sooner talking to business people because they start to feel it, and then it shows up in the data.”

Vice-Chair Clarida reiterated that “raising rates too quickly could unnecessarily shorten the economic expansion, while moving too slowly could result in rising inflation and inflation expectations down the road that could be costly to reverse, as well as potentially pose financial stability risks.” Bearing this in mind (and with a year of steady hikes towards the neutral rate almost behind us) it’s interesting to hear Powell liken setting rates policy to walking when the lights go out, “What do you do? You slow down. You stop, probably, and feel your way... It’s not different with policy.”

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