The Federal Reserve will not be hiking rates for a second time at the meeting today. The minutes from the March FOMC meeting reflected a dovish shift in tone and dot plots that suggested just 2 hikes in 2016 (down from the previous 4). Also with no updated projections today and no press conference the chances of a hike look somewhat slim. Constant reference to international economic and financial concerns have meant that the probability of a rate hike have now fallen to 0% for the April meeting (according to Fed Funds futures). So if the Fed is not going to hike rates, and this might therefore be considered to be a meeting that is a non-event. But that does not mean that there is nothing to be gleamed from the meeting. What can we expect from the Fed tonight? Changes to the FOMC statement could be key for the meetings ahead.
Last month Janet Yellen and the FOMC alluded to the fact that the concerns over both the lack of inflation and also weak global conditions were preventing it from hiking. However, after a tumultuous first quarter for financial markets, conditions seem to be far more settled now. Wall Street is one strong session away from the all-time highs again (around 2% off), whilst the volatility of the Chinese yuan and stock markets is drastically reduced, and even emerging market currencies have been significantly bolstered in recent months by the weakness of the dollar in the past two to three months.
The stabilising of the China yuan (i.e. no longer threatening to sharply depreciate) means that the deflationary risks to US inflation are lower than in March. There have been signs that inflation is beginning to pick up although real traction has not yet been maintained. However this could all leave the Fed in a position that it could marginally tighten the language of the FOMC statement. But how?
The March FOMC statement currently contains three references to the “global economic and financial conditions” (the minutes of the March meeting contained 22 mentions). There could be a removal or at least toning down of these three mentions.
First of all in Paragraph 1 when the US is growing “moderately” despite the international conditions. Growth remains subdued and we get a first view of Q1 GDP on Friday, whilst the Atlanta Fed’s GDPNow forecast has just been upgraded to +0.4% (the New York Fed’s inaugural GDPNow tracker suggests +1.1%), this would suggest there is little likelihood of any change to the word “moderate” but there could be less focus on the “global economic and financial developments”.
In paragraph 2, the committee continues to talk about risks from the international conditions, a section that is likely to remain. However, there is also the part about inflation remaining low due to energy prices (i.e. the oil price). The oil price has rallied strongly in the past few weeks and looks increasingly as though the gains will be sustained. This part could be tweaked for a more hawkish view of inflation.
Other than that there is unlikely to be too much different in the statement. The inflation assessment will continue to warrant “only gradual increases in the Fed Funds rate”. Also the whole situation will continue to be data dependent (although some would argue that the focus on this side is not entirely true).
One final intriguing situation is that the committee decision currently shows that Esther George voted for a hike last month. The FOMC members’ rhetoric has been far more split in recent weeks and she could be joined by more dissenting voices. This would also be a hawkish shift.
Rising Treasury yields in recent weeks would suggest that perhaps the bond markets are looking for a more hawkish Fed in this statement, even though the US dollar has not matched the move. We could find the dollar rallying tonight if the Fed agrees with the bond markets. A June rate hike is still unlikely at this stage with 22% probability according to CME Group FedWatch. This probability could increase after tonight.