The Fed Just Gave the Economy Another Thumbs-Up
The Federal Reserve raised interest rates on Wednesday for the second time in three months, citing continued U.S. economic growth and job market strength, and announced it would begin cutting its holdings of bonds and other securities this year.
The decision lifted the U.S. central bank’s benchmark lending rate by a quarter percentage point to a target range of 1.00% to 1.25% as it proceeds with its first tightening cycle in more than a decade.
In its statement following a two-day meeting, the Fed’s policy-setting committee indicated the economy had been expanding moderately, the labor market continued to strengthen and a recent softening in inflation was seen as transitory.
The Fed gave a clear outline on its plan to reduce its $4.2 trillion portfolio of Treasury bonds and mortgage-backed securities, most of which were purchased in the wake of the 2007-2009 financial crisis and recession.
“The committee currently expects to begin implementing a balance sheet normalization program this year, provided that the economy evolves broadly as anticipated,” the Fed said in its statement.
According to an addendum released with the policy statement, the Fed anticipates that the balance sheet reduction plan would feature halting reinvestments of ever-larger amounts of maturing securities.
The Fed sees the cap for Treasury securities to be $6 billion per month initially, increasing in $6 billion increments at three-month intervals over 12 months until it reaches $30 billion per month.
For agency debt and mortgage-backed securities, the cap will be $4 billion per month initially, increasing by $4 billion at quarterly intervals over a year until it reaches $20 billion per month.
Fed Chair Janet Yellen is due to hold a press conference at 2:30 p.m. EDT.
Eyes on Inflation
The Fed has now raised rates four times as part of a normalization of monetary policy that began in December 2015.
The central bank had pushed rates to near zero in response to the financial crisis.
Policymakers also released their latest set of quarterly economic forecasts which showed temporary concern about inflation and continued confidence about economic growth in the coming years.
They forecast U.S. economic growth of 2.2% in 2017, an increase from the previous projection in March. Inflation was expected to be at 1.7% by the end of this year, down from the 1.9% previously forecast.
A retreat in inflation over the past two months has caused jitters among some Fed officials who fear that the shortfall, if sustained, could alter the pace of future rate hikes. Earlier on Wednesday, the Labor Department reported consumer prices unexpectedly fell in May, the second drop in three months.
The Fed’s preferred measure of underlying inflation has retreated to 1.5%, from 1.8% earlier this year, and has run below the central bank’s 2% target for more than five years.
Expectations of any fiscal stimulus in the near term from the Trump administration have also waned with campaign promises on tax cuts, regulation rollbacks and infrastructure spending either still on the drawing board or facing hurdles in Congress.
Interest rates are seen rising one more time by the end of this year, according to the median projection of the forecasts released with the Fed’s policy statement, in keeping with the previous forecast.
Estimates for the unemployment rate by the end of this year moved down to 4.3%, the current level, and to 4.2% in 2018, indicating the Fed believes the labor market will continue to tighten.
The median estimate of the long-run neutral rate, which is seen as the level of monetary policy that neither boosts nor slows the economy, was unchanged at 3.0%.
Minneapolis Fed President Neel Kashkari dissented in Wednesday’s decision.