According to the old blues song, Stormy Monday, “the eagle flies on Friday”. However, this Friday the markets worry whether Fed chair Janet Yellen will prove a dove or a hawk when she speaks at the Jackson Hole conference at 3pm London time.
Fed governors are divided in private and in public and over the short and longer term. The July 27 minutes showed that, behind closed doors, there was agreement that uncertainties relating to May’s weak payrolls report and June’s UK Brexit vote had diminished. However, there was a three-way split over the looming interest rate increase. One was keen to raise rates immediately; others thought a move would “soon be warranted”; two preferred to wait for evidence that inflation would rise to 2% on a sustained basis.
Meanwhile, over the past couple of weeks there has been a very public debate with speeches from Bill Dudley (New York Fed), Stanley Fischer (deputy chair) and John Williams (San Francisco Fed) plus a Brookings blog from Ben Bernanke (ex-chair). Dudley warned that markets were mispricing (i.e. under-estimating) Fed rate rise risks while Fischer believes the US economy is “close to meeting its targets” of full employment and price stability. Both messages had a hawkish tone.
In contrast, an article in the Washington Post and Ben Bernanke’s blog suggest that the Fed’s strategic thinking is moving in a more dovish direction. The table below (taken from Bernanke’s piece) shows that Fed long-run forecasts for growth, unemployment and interest rates have been falling. Comparing the latest projections with those made four years ago, long-run growth is expected to be half a percent slower and the ultimate destination of the Fed’s policy rate 125 bps lower. Meanwhile, John Williams was proposing among other things that the Fed’s inflation target be raised to 3% from 2%, which would have the consequence of reducing the urgency to increase interest rates.
Thus, we appear to have an FOMC which is becoming more hawkish in the near term but more dovish in the long term.
The crucial question, though, is the timing and size of the next Fed rate increase. Our best guess is a 25 bps rise in December. Some commentators have taken the Fischer and Dudley comments as indicating a September rate hike but that looks unlikely. The evidence is not yet compelling and the temptation to wait is attractive. It would be a brave Fed which raised interest rates on 2nd November, six days before the US presidential election … which leaves 14th December.
As for Janet Yellen’s speech today, she is unlikely to signal an imminent interest rate increase but will keep a December rise in play, thus averting “Stormy Monday” for now.
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