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Fed Still Uneasy About Steady Rate Hikes


Photo Credit: PIIE/Jeremey Tripp


Nobody minds a little attention now and again, but with all the drama and speculation hovering over Federal Reserve policy in recent years, policymakers likely enjoy some time away from the spotlight.

That’s set to be the case this week, as the central bank gathers for another meeting it assures market participants is “live,” in that it could theoretically result in a second interest rate increase, but no one actually expects it.

“The Fed is almost certain to sit tight at this meeting,” says David J. Stockton, senior fellow at PIIE and former chief economist at the Fed’s Washington-based board of governors. “While the incoming data on the labor market have continued to signal underlying strength of the economy, the readings on spending have been lackluster at best.  And although the inflation readings had picked up noticeably early this year, consumer prices slowed in March—giving some support to Chair Yellen's suggestion that the earlier firming might not be sustained.”  

Indeed, most Fed watchers are now looking to the June meeting—when Fed Chair Yellen has a press conference and would therefore be able to explain any decision to continue tightening monetary policy—as the first possible timing for the next move. The Fed cut official interest rates to a range of zero to 0.25 percent in December 2008 and left them there until December 2015, when it raised that range by a quarter percentage point to 0.25 to 0.50 percent.

Expectations for Fed action have shifted radically in recent months, in a test of central bank credibility. Immediately after raising rates in December, several officials said they expected another four interest rate hikes this year. Markets are now barely pricing in one or two.

“The Fed is under no pressure to act at this meeting. Quite to the contrary, raising rates at this meeting would come as a considerable surprise to market participants,” says Stockton. “This would risk a much more pronounced tightening of financial conditions than the FOMC is willing to chance at this point,” he says, referring to the policy-setting Federal Open Market Committee.

In the end, maintaining flexibility will be the key to policy communication.

“The FOMC wants to keep a June increase on the table and will want to have the probability of a June hike increase should the subsequent data indicate that further improvement in the labor market is occurring and inflation is moving back to target—as the Committee currently expects.  But they don't want their communication to be so hawkish that a June hike looks like a done deal,” Stockton adds.

The Fed’s reluctance to rock the boat in April reinforces the case for the central bank to move toward holding a press briefing after each of its eight yearly policy meetings, rather than just at every other meeting, which tends to hamstring policy and market expectations.

It also suggests, as work from the San Francisco Fed recently found, that markets may finally be starting to pay attention to the economic data as a guide to central bank policy—as policymakers had intended since not long after the Fed wound down its last bond-buying program in October 2014.

Or, as Stockton puts it: “As always, their message will be ‘data dependence’, and this time we should take them at their word.”

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