3 things to watch for from the Federal Reserve on Wednesday
By Martin Crutsinger
WASHINGTON, D.C. — There isn’t much suspense about what the Fed will announce when its latest policy meeting ends Wednesday: That it’s raising its key short-term interest rate for the third time in six months.
The job market — with unemployment at a 16-year low of 4.3 percent — has improved to such an extent that the Fed is thought to feel it’s time to modestly raise its benchmark rate again. The move, to a still-low range of 1 percent to 1.25 percent, will likely lead to somewhat higher rates on some consumer and business loans. The idea is to ensure that the U.S. economy doesn’t overheat.
But beyond the announcement of another rate hike, anticipation surrounds the possibility that the Fed could signal policy shifts in a statement it will issue, in updated economic forecasts and in a news conference with Chair Janet Yellen. Investors want to know, for example, how fast the pace of rate increases may be in coming months or whether Washington’s political paralysis has concerned the Fed.
Here are three things to watch for after the Fed’s meeting ends:
Future Pace of Rate Hikes
After leaving its benchmark rate at a record low near zero for seven years, the Fed has raised rates three times, by a quarter-point each time — once in December 2015, again last December and a third time in March. The Fed has previously forecast that it will raise rates three times in 2017.
Though investors have pegged the likelihood of a rate increase Wednesday at near 100 percent, there’s much less certainty about the prospect or timing of any further hikes. Some Fed watchers expect another increase in September. Others say the Fed may want to wait until December. The reasoning is that the policymakers will want more time to determine whether a slowdown in growth and inflation at the start of 2017 was indeed “transitory,” as they described it in May, or the start of another slump that could lead the Fed to halt its rate hikes.
Investors will be watching the language in the Fed’s policy statement to describe the economy, along with Yellen’s comments during her news conference.
One signal could come from the Fed’s quarterly “dot plot.” This is an illustration representing the anonymous forecasts of each Fed official — the board members as well as the 12 regional bank presidents — for the timing of future rate hikes. It’s this chart that provides the current expectation of three rate increases during 2017.
Balance Sheet Reductions
Starting in 2008, the Fed expanded its balance sheet five-fold to its current $4.5 trillion through purchases of Treasury and mortgage securities. The Fed began the purchases after it had cut its main policy lever, the federal funds rate, to a record low near zero. The bond purchases were intended to depress long-term borrowing rates as an additional way to energize the economy as it struggled to emerge from the Great Recession.
The Fed is no longer buying new bonds. But it’s been replacing maturing bonds to prevent its portfolio from shrinking. Speculation has grown that Yellen may reveal details at her news conference of a plan to gradually reduce the portfolio.
One possibility suggested would have the Fed begin to pare its holdings late this year and then gradually shed incrementally larger amounts into next year, while allowing the financial markets to adjust to the impact.
Investors are keenly interested in whatever the Fed says about its balance sheet because gradual reductions in its portfolio could raise long-term rates, even if only slightly. The Fed will likely want to unveil its plan well in advance of actually trimming its portfolio to avoid spooking the markets.
Washington’s Political Dysfunction
During his campaign, President Donald Trump pledged to pursue a program of deep tax cuts, less regulation, more infrastructure spending and tougher enforcement of trade rules. He billed his plan as a way to accelerate economic growth from the sluggish 2.1 percent annual rate of the past eight years. Trump said his program would double growth to 4 percent or better, though the administration based its first budget plan on achieving a lower but still highly ambitious goal of 3 percent annual growth.
The problem is that Trump’s economic agenda remains stalled, in part because of resistance in Congress, in part because of a lack of details so far from the administration. Concern has also arisen that Congress could delay action on raising the federal debt limit and approving a new budget — possibilities that could upset markets.
Given such risks, analysts will be watching to see whether the Fed offers a more pessimistic outlook for the economy in the updated projections it will issue Wednesday. In its previous forecast in March, the Fed had predicted growth for this year and next year at 2.1 percent, unchanged from the lackluster pace of recent years
Investors will also be listening for any signals Yellen sends about her own future. After Trump’s surprise election victory, Yellen had announced that she planned to serve out her term, which ends in February. Trump has sent mixed signals about whether he would nominate Yellen for a second term.
In the meantime, Trump has three vacancies to fill on the central bank’s seven-member board, an opportunity for him to begin influencing Fed policy. The administration has yet to nominate any candidates for Senate confirmation.