The March FOMC was a quiet turning of the guard, and by all signs, that's exactly what the Fed wanted. This was Chair Powell's first meeting in his new leadership role, and it delivered few enough surprises for the financial markets to remain calm. Nevertheless, we received confirmation of the Fed's evolving view of the economy, plus important signals about how the Powell Fed will differ from the Yellen Fed.
What the Fed Did
- Announced a rate hike of 25 basis points, to a range of 1.50-1.75%
- Just barely no change in the median dots for 2018 (3 hikes) or 2020 (2 hikes), but an increase for 2019 (3 hikes) and a very slight shift up in the longer-run rate (2.9%).
- GDP was marked up for 2018 (2.7% vs. 2.5%) and 2019 (2.4% vs. 2.1%), but left unchanged for 2020 and the longer run, reflecting recent federal tax stimulus and spending increases.
- Unemployment was marked down across the board, with its rebound above 4% now pushed out beyond 2020 and a low point of 3.6% maintained in 2019 and 2020; the longer-run rate ticked down too (4.5% vs. 4.6%).
- Slight increases to the 2019 and 2020 inflation projections, but not 2018's. Looking past monthly volatility, the Fed feels confident in how inflation is developing right now.
- Modest changes to the FOMC statement, reflecting recent data and a view that recent fiscal measures will be impactful but mostly in the short term.
What We Learned About the Powell Fed
- Inflation target symmetry is memoryless. Powell sent a clear message that the FOMC will not be looking to make up for lost time, but rather to keep inflation close to 2% as much as possible. It's a symmetric target but measured on a short-term basis, for all the talk of setting a course for 2% "over time." This seems a sensible approach, because if you get into averaging, that begs questions of how much overshooting and over what time period.
- Sanguine on inflation: Powell stated very clearly that he believes there's still a link between the labor market and inflation but we're not seeing it yet. He seems confident inflation will rise over time, yet he said the data gave no sense that we might be on the cusp of an outbreak.
- Labor market mixed messages: on the one hand, the unemployment rate currently sits below even the lowest of the FOMC's long-term projections, suggesting we are already at full employment. On the other, Powell said, "We'll know the labor market is tight when wages rise faster." He attributed low modest wage growth to weak inflation and productivity growth.
- The balance sheet is not coming back in play at least until the next recession. Powell evinced no inclination to revisit the Fed's balance sheet wind-down, so they're sticking with the plan, no matter the fiscal policies and Treasury borrowing. Translation: the Treasury market is on its own now.
- Downplaying the dot plot: Fragmentation is the order of the day. Powell made it clear that the dot plot is not a coordinated exercise. This is an underappreciated point: the forecasts don't reflect the political and interpersonal dynamics that transform the views of individual participants into a committee-wide decision. Only the FOMC statement reflects a brokered and ratified group view.
What Comes Next
- 4 hikes nows appears to be the most likely outcome for 2018. The median dot for 2018 was just below a 4th hike, but the two outlying dots dragging down the median were unlikely to be voting members; there was only one outlying dot on the upside, and that dot has a slightly greater chance of being a voting member; take away the three outliers and you get a dead-even tie. Of course, that's assuming all goes as the FOMC members currently expect and that any new membes of the Committee do not change the views and group dynamics materially. There is still a Fed Board nomination pending, another one (for Vice Chair) expected, and the influential new President of the NY Fed remains to be appointed.
- Yield curve as an indicator: Powell dismissed fears of a flat or inverted yield curve as recession predictor, ascribing prior patterns to correlation with inflation. Instead, he focused on how the yield curve can affect financial intermediation: i.e., financial stability risks. What he did not explain was: if a flat yield curve is a risk for financial stability, then what will the Fed be on guard for as the curve flattens? Are they sticking with the indicators Powell ticked off in the presser (capital/leverage, liquidity/funding, default rates, and asset prices), or are they revamping their surveillance of shadow banks, REITs, and financial innovators? Are they talking to other regulators and do they have relative consensus on these issues?
- Press conference frequency is under consideration. Powell said he was carefully considering this issue, but didn't want the meeting frequency to be seen as a signal about the path of policy. Perhaps Powell will ramp up to 8 pressers, but make them more perfunctory, or maybe he will just obviate the current 4 pressers. Personally, I'm not convinced the Fed needs 8 pressers a year to make every meeting live. They need only hike once at an "off" meeting, and FOMC members hardly lack for opportunities to make their views known, as long as they think the market can take a modest surprise.