U.S. Fed stands pat, likely to hike rates later this year

As widely expected, the FOMC kept the Fed funds target rate at 0.25 percent-0.50 percent. However, a few analysts had anticipated a rate hike. Taking a look at the rate decision, there were three dissenters – Rosengren, Mester and George - who voted for an immediate hike in rates, implying a much divided FOMC.

Even if the central bank’s statement was quite hawkish, the Fed chair Janet Yellen was quite dovish in her press conference. According to the Fed statement, labor market has continued to bolster and that growth has recovered from the modest rate that was witnessed in the first half of 2016. Even if ‘near-term risks to the economic outlook seem more or less balanced and the case for a rise in rates has bolstered, the central bank, for the time being, has decided to wait for additional evidence of continued progress towards its objectives, according to the statement.

During the press conference, Yellen underlined again that the PCE core inflation has remained below the target rate of 2 percent for quite some time and that there is scope for additional improvement in the labor market. Four of the members intend to raise rate twice or more in 2016, while three members intend to remain to hold for the rest of 2016 and 10 members anticipate one hike.

There is definitely a ‘bird flight’ between the doves and the hawks in the FOMC, noted Danske Bank in a research note. The hawks are basing the argument on the continuous rise in employment that would ultimately push the inflation rate up as the tighter labor market would result in higher wage growth and therefore the U.S. Fed should continue with the hiking cycle. The subdued economic growth is more because of structural factors as compared with a weak economy.

The dovish members concentrated on the jobless rate that has moved sideways for some time, implying there is more slack left in the labor market. As inflation continues to remain below the target level of 2 percent, the Fed can afford to remain patient removing accommodation, particularly since recent economic data have been weaker than anticipated, noted Danske Bank.

Meanwhile, the U.S. Fed view economic momentum to have accelerated from the slowdown seen in the first half of 2016, despite the still weak business investment, with moderate growth anticipated for the rest of the forecast horizon on the back of strong fundamentals in domestic demand, noted TD economics in a research report.

Apart from the largely unchanged outlook, the Committee now also views the risks as balanced. This, along with the view that the labor market has just “somewhat further” to bolster, suggests that most members feel that the economy is nearing the level of full-employment.

“We expect the Committee to pull the trigger on rates later this year, assuming that global markets don't convulse and U.S. data cooperates, with inflation metrics particularly in focus”, added TD Economics.