Yesterday the latest meeting of the Federal Open Markets Committee (FOMC) of the Fed was held before the presidential elections on November 3. In his appearance Jerome Powell, Chairman of the Federal Reserve, reaffirmed his commitment to keep interest rates between 0% and 0.25% at least until the end of 2023 and even 2024. The central bank of the United States also it lowered the contraction forecast for this year in the country’s GDP, which will fall by 3.7% – instead of the 6.5% expected last June. What was the first reaction of the international managers after the Fed meeting? We leave you with the comments from the experts from Fidelity International, DWS, UBP, Wisdom Tree, Schroders and Janus Henderson.
Fidelity International
Anna Stupnytska – Global Macro Economist for Fidelity International
The Federal Reserve announced no major policy changes but did unveil its new forward guidance at the September Federal Open Market Committee (FOMC) meeting, as expected. The projections and the tone of the statement sent a dovish message, signalling that rates will stay near zero through 2023 – amid expectations that inflation will remain below target until then, as the economy takes time to return to its previous strength.
While the Fed acknowledged the better-than-expected outlook for the economy relative to that back in June, the language in its statement continued to emphasise the uncertainty around the virus trajectory and associated risks to the outlook.
The statement was adjusted to reflect the move towards the average inflation targeting framework last month, though no guidance was provided as to what a moderate overshoot of the 2 percent inflation target means and how long the “for some time” that the Fed will allow price rises to run above target would be.
To reinforce the message from the new framework, in the press conference, Fed chairman Powell emphasised the Fed’s strong commitment to the inflation overshoot. He also made it clear that when assessing labour market conditions and inflationary dynamics, the Fed will use broad judgement, not a rule, by looking at a number of different indicators as it aims for maximum employment.
Since the last meeting, the economy has shown strong evidence of its rebound, with continued upside surprises in the labour market and virus cases on a downward trajectory. Financial conditions have eased further, and are now at even more accommodating levels than before Covid. This backdrop induced little urgency to act decisively at this month’s meeting given the recent framework shift.
However, it is clear from today’s message that the FOMC remains concerned about the outlook due to continued uncertainty about the virus trajectory. Moreover, in the press conference, Powell noted that the Fed’s forecasts assume some additional fiscal stimulus from Congress. However, with the probability of stimulus before the election decreasing, this is another significant concern for the Fed in the months ahead. Other factors such as the election itself, weak global recovery and trade tensions could complicate the recovery path.
Looking ahead, we expect the Fed to be on standby, ready for action at any time, should the economic outlook – or indeed market functioning – show any signs of deterioration. In case of no major emergencies, the Fed is likely to start transitioning from crisis-fighting policies towards a more traditional quantitative easing programme to support economic recovery, which it seems to be signalling already. This would involve adjusting the composition of purchases towards longer maturities in one of the upcoming meetings to further support financial conditions at extremely easy levels and help the flow of credit to the household and corporate sectors.
DWS
Christian Scherrmann, U.S. Economist at DWS
As we expected, the Fed did not hesitate to put the new framework into practice. The statement outright calls for inflation to trend moderately above two percent to achieve the desired average and labour markets to reach levels which should be consistent with the Committee’s assessment of maximum employment. The statement does not provide details on the new qualitative maximum employment goal. The lack thereof should foster a vivid discussion on the course of inflation looking ahead. The somewhat more optimistic outlook on growth and inflation in combination with unchanged medium-term outlook on Federal funds rate however should well anchor market expectations of lower for longer for now.
In the press conference, Chair Powell reaffirmed the more upbeat outlook but again acknowledges the remaining uncertainty looking ahead based on the pandemic. Further the Fed commits again to continue their asset purchases at least at the current pace to ensure sound financial conditions and market functioning. After all, depending on the circumstances, the Fed remains ready to adjust all of their tools as necessary. This also would include purchases along the Treasury curve. For us a clear signal that some form of maturity extension (e.g. Yield Curve Control) remains in the cards. Last but not least Powell again called for fiscal support as especially low-income earners would benefit from this. This maybe also a hint on their thinking on maximum employment
Union Bancaire Privée
Patrice Gautry, Chief Economist at Union Bancaire Privée (UBP) reflects on the latest FOMC Meeting
- The statement reflects the new long-term policy framework that was announced last month: “… the Committee will aim to achieve inflation moderately above 2% for some time so that inflation averages 2% over time and longer-term inflation expectations remain well anchored at 2%”.
- The Committee expects to maintain the current target range for federal funds rate “until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment and inflation has risen to 2% and is on track to moderately exceed 2% for some time”. The forward guidance on rate is thus new but is in line with what was said at Jackson Hole.
- The central bank repeated it will continue buying Treasuries and MBS “at least at the current pace to sustain smooth market functioning”. The asset purchase program is thus unchanged.
- Looking at the dot plot, officials see rates staying ultra-low through 2023 according to the median projection of their quarterly forecasts, though four officials penciled in at least one hike in 2023. Interestingly, despite the change in policy strategy, the Fed forecast for the policy rate over the long run is unchanged at 2.5%.
- The updated quarterly projections show a more upbeat outlook than in June:
- -3.7% GDP growth in 2020, which is a significant increase from -6.5% forecasted in June, followed by a more muted +4% in 2021 (vs +5% back in June).
- The unemployment rate is now seen at 7.6% in Q4 (vs 9.3% expected in June), 5.5% in Q4 2021, compared to 3.5% pre-COVID.
- PCE inflation is now expected at 1.2% in 2020 (vs June estimate of 0.8%) followed by 1.7% in 2021 (vs 1.5% back in June). The median forecast for 2023 is 2%, not above.
- In the Q&A session, Powell, answering question about what will be “full employment”, said that they will use a broad range of measure to assess it. So, unsurprisingly, no reading on the unemployment was set out as trigger for a policy hike. About what “for some time” means for inflation, Powell repeated that they will not look at a rule but rather at a judgmental assessment.
- Overall, today’s meeting was in line with expectations and market reaction has logically been very limited.
Wisdom Tree
Kevin Flanagan, Head of Fixed Income Strategy at Wisdom Tree
The Federal Reserve (Fed) released its new policy framework, formally known as the Statement on Longer-Run Goals and Monetary Policy Strategy, late last month in connection with Chair Powell’s Jackson Hole speech. After that, it is not surprising the September Federal Open Market Committee (FOMC) meeting failed to provide any fresh headlines. The key question now is how does the Fed actually implement this new approach? There really is no precedent to go by, and the ‘assembly directions’ have significant potential for misinterpretation by the markets.
As a reminder, at the heart of this new framework, the policymakers will now be using an average inflation target of 2% “over time.” To quote the Fed’s own statement, “following periods when inflation has been running persistently below 2 percent, appropriate monetary policy will likely aim to achieve inflation moderately above 2 percent for some time.” Okay, sounds good in theory, right? I thought so…
How about in real time? I don’t want to be overly critical or run the risk of putting the cart before the horse. But in my experience, policymakers don’t have the greatest track record when it comes to implementing new policy initiatives. It’s easy to let the various facilities run off the balance sheet if they are no longer being used, but the tricky part comes when action needs to be taken.
Communication—a.k.a. forward guidance—will be of critical importance. Does everybody remember 2013’s taper tantrum? As I mentioned earlier, the chance of market misinterpretation runs high. What exactly does “appropriate monetary policy will likely aim to achieve inflation moderately above 2 percent for some time” mean? What is “moderately above”? Is that 2.25%, 2.5%, or even higher? For that matter, what does “for some time” mean? Three months, six months, a year?
Another important aspect to consider is that the Powell-led Fed has shown it is susceptible to market reactions. One more trip down memory lane: the final rate hike in 2018—remember how well that went? Just seven months later the Fed reversed it!
Bottom line: I readily admit the Fed will not be raising rates and/or reducing its quantitative easing (QE) purchases any time soon. However, the implications of this new policy framework cannot be underestimated. The bond market’s response to ‘letting things run hot’ definitely has the potential to put a wrench in the policymakers’ best laid plans. Want another fun tidbit? Powell’s term as chair ends in early 2022. In other words, he may not even be around to actually implement this new approach!
Schroders
Commenting on the last US Federal Reserve meeting before November’s presidential election, Keith Wade, Chief Economist & Strategist, Schroders said:
“Despite a more upbeat outlook and introducing a more dovish policy framework the US Federal Reserve took no action at its latest policy meeting.
“Interest rates and the pace of asset purchases remain unchanged although the central bank did spell out its new average inflation target by saying they “will aim to achieve inflation moderately above 2 percent for some time so that inflation averages 2 percent over time and longer-term inflation expectations remain well anchored at 2 percent”.
“The clearest steer on how its new policy would work in practice was contained in their Economic Projections. New forecasts show inflation moving back up to 2% in 2023 alongside no change in projected interest rates and marks a departure from the past when the Fed would have signalled a tightening of policy in response to such an outlook.
“Under the previous regime, inflation moving up to 2% alongside robust growth would be met by a pre-emptive tightening to cool the economy and keep inflation stable. The need to act ahead of a potential inflation overshoot above 2% reflected the lags between policy action and its impact on the real economy. The new policy means that the Fed is going to be more patient and is willing to wait until inflation has gone above 2% before it responds.
“The statement is no real surprise, but may disappoint those who were looking for more explicit guidance on how policy would respond to changing economic conditions. Nonetheless, it is in line with past meetings just ahead of a presidential election where the approach has been to avoid saying or doing anything controversial.”
Janus Henderson
The era of monetary policy dominance & investor fascination with central banks is coming to an end says Paul O’Connor, Head of Multi-Asset at Janus Henderson Investors
This was an important FOMC meeting, in which the Fed sought to unveil its new approach to forward guidance on interest rate setting, fleshing out last month’s new inflation-targeting strategy. The Fed’s guidance now is that interest rates will probably remain unchanged until “maximum employment” has been attained and “inflation has reached 2% and is on track to moderately exceed 2 percent for some time”.
This dovish message was reinforced by the first publication of the FOMC’s interest rate forecast “dots” for 2023, which show that the committee does not expect US interest rates to rise before the end of that year.
The Fed’s announcement didn’t have a meaningful impact on market interest rate expectations – before the FOMC, investors were already assuming that the next hike in US interest rates would not happen until 2024. Some might reasonably observe that the wording of this new “enhanced forward guidance” still leaves the Fed with plenty of flexibility in interpreting when to raise interest rates in the future. Still, the central bank made clear that, for now at least, it’s key objective is to anchor market interest rate expectations until meaningful progress has been made towards reaching its employment and inflation objectives.
The fact is, in recent decades, the US economy has rarely achieved the sort of economic conditions that are now presented as the preconditions for future interest rate hikes. Unless inflation expectations swing meaningfully higher, Fed-watching should become very boring from here on. It is no surprise that market measures of expected volatility of US Treasury bonds are now close to all-time lows.
The bigger picture here is that, after decades of rate cuts and balance sheet expansion, the major central banks are now reaching the limits of their current toolkits. While Chairman Powell was keen to assert that the Federal Reserve wasn’t “out of ammo” it nevertheless seems clear that most of the big monetary artillery has already been deployed in the battle against deflation. If growth or inflation do disappoint in the future, fiscal policy will have to take more responsibility for reviving macroeconomic momentum than it has done in recent decades. This is not just a US story – it also applies to the eurozone and the UK as well. The era of monetary policy dominance and investor fascination with central banks is coming to an end.
