We expect the key phrase that the FOMC can be patient in beginning to normalize the stance of monetary policy to be omitted from the statement released on Wednesday evening. This will mark the final transfer from calendar-based guidance on monetary policy to full data-dependency.
In her February testimony, Yellen laid out the conditions necessary for rate hikes to commence (although in rather opaque terms. It is uncertain when the FOMC feels that these conditions will be met, but with the labour market now in a better state on almost all metrics than in June 2004 when the Fed initiated the previous hiking cycle, we think that the first fed funds rate hike is moving closer.
The challenge is the lack of wage inflation and the low level of core inflation. Low oil prices and the stronger US Dollar are both deflationary and we expect core goods inflation to trend lower in coming months. However, several FOMC members have highlighted that the Fed needs to look at the inflation outlook and the current drivers of low core inflation are temporary. If the labour market continues to improve in line with our expectations, we believe the Fed will look through the low level of core inflation and deliver a first rate hike in June. We expect the pace of hikes to be slow, but not as slow as financial markets are pricing.
To Read the Entire Report Please Click on the pdf File Below