Last Wednesday, the Fed committee unanimously maintained the target range for the federal funds rate within the range of 1.50 per cent to 1.75 per cent. The committee deciding upon US short-term rates reiterated that the current level of interest rates are appropriate to support the US economic trajectory, labour market conditions and the two per cent personal consumption expenditure target.
As customary with the Fed lately, the committee stressed on the fact that the rate path is not on a pre-set course and highly dependent upon incoming information on the economic outlook, including global developments (indirect reference to geo-political tensions between US-China) and inflationary pressures.
Indeed a comparison in committee statement with its previous one published in October 2019 shows that ‘global developments’ was added into the statement as US-China negotiations reach their focal point. This highlights event risks faced by global economies that have a direct impact on central bank policy decisions. The Fed provides a plethora of information that investors should seek to follow for them to understand the Fed’s current and prospective assessment on the US economy. Indeed, the statement highlighted the strong labour market with positive job gains and the unemployment rate remaining low.
The Fed cautioned investors on the weak business fixed investment and exports growth (Note: US President Donald Trump might have something to say about this). Also, market participants keep a watchful eye on forward Fed expectations which have a significant impact on US forward rate expectations, the US Dollar and every US Dollar denominated asset.
Fed data shows that projections on real GDP are 2.2 per cent for 2019, two per cent for 2020, 1.9 per cent for 2021 and 1.8 per cent for 2022. On the inflationary front, expectations on core personal consumption expenditure is 1.6 per cent (a downward revision from the previous projection of 1.8 per cent) for 2019, while the Fed expects core PCE to be 1.9 per cent.
All this shows encouraging signs for the US economy with no significant weakness envisaged by the Fed. Fed projections act as the foundation for investors and economists to determine market-based economic expectations.
Any dissonance between market expectations and Fed expectations creates a sense of uncertainty which will require clarification at Press conference stage (which follows the publication of the FOMC Statement). Market volatility will ensue should the market perceive a conflicting justification. In this case, market reaction was muted as the Fed delivered what was expected.
During the press conference delivered by Fed chairman Jerome Powell, the US Dollar weakened 0.30 per cent against the Euro, whilst the US Dollar Spot Index (US Dollar priced against a basket of major currencies) weakened marginally by 0.24 per cent. The Dot plot is another source of information that the market looks at, as it gives a simple graphical indication on where committee members expect US short-term rates to be, given current economic conditions. The vast majority of committee members expect interest rates to remain stable. This provides investors with a guide that given current economic pressures, the Fed will not be restrictive over the short to medium term.
Over the weekend, a sign of goodwill between the US and China has taken centre stage, as both parties seemingly agreed on a Phase One deal that aims to de-escalate tensions between the two largest economies. This has a direct implication on US short-term rates, as the perceived lower global risks should translate into lower market risk premiums. This lowers the need for the Fed to intervene assuming that economic conditions remain stable both to the upside and downside.
Disclaimer: This article was issued by Jesmar Halliday, investment manager at Calamatta Cuschieri. For more information visit www.cc.com.mt. The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.