Market Views from the Global Fixed Income, Currency & Commodities Team (GFICC)

The Federal Open Market Committee (FOMC) voted to maintain the Fed Funds rate at the zero lower bound

The bulk of the changes within the statement as well as the conversation in the press conference centered on the Fed’s asset purchase program. The Fed offered explicit minimum purchase amounts and linked its forward guidance to the committee’s judgement of substantial progress towards its price stability and employment goals.  The Fed did not announce any changes to the current pace or composition of purchases.

There were no dissenters.

Committee Statement

We can break the statement into three parts:

• Economic Assessment – The economic assessment was unchanged from November and again referenced the ongoing economic recovery while also highlighting that the level of employment remains meaningfully below pre-COVID levels.
• Outlook – The Fed continues to view the path of the economy as highly dependent on the course of the virus and the risks to the medium term outlook as considerable.
• Policy –
  • The Committee maintained its prior guidance that policy rates will remain at zero until the labor market has achieved full employment and PCE inflation has reached 2% and is expected to rise modestly above 2% for some period of time. Furthermore, the FOMC has committed to maintaining more broadly accommodative monetary policy conditions until inflation averages 2% as long as longer-term inflation expectations are anchored at 2%. 
  • On asset purchases, the Fed outlined its commitment to maintain its pace of purchases of at least 80 billion USD (gross) per month in Treasuries and 40 billion USD (net) in Agency MBS in order to foster accommodative financial conditions and smooth market functioning.  The Fed retains flexibility to adjust the purchases but will keep the program going until sufficient progress has been made toward the Fed’s price stability and employment goals.

Chair’s Press Conference

With the new forward guidance for asset purchases, Chair Powell revealed more information about the Fed’s reaction function suggesting that if the pace of improvement in the economy falters, the Fed will look to provide further easing through signaling a longer period of time at the zero lower bound and a faster pace of growth of the balance sheet.

Reporters tried to assess what the Committee would need to see to judge that the economy has seen substantial progress, and thus that asset purchases would be tapered. He communicated that the current pace of purchases was appropriate but that they would be willing to adjust the purchases going forward to further promote the recovery.

Summary of Economic Projections

Investors received participants’ outlooks for growth, inflation, employment, and policy rates expectations through 2023.  While the unemployment rate was revised lower throughout the forecast horizon reflecting a stronger than expected recovery, the median of the Committee remains committed to keeping rates at the zero lower bound through the forecast horizon.  The Fed’s new flexible average inflation targeting approach was codified with a forecast of 2% PCE inflation in 2023 but with no forecasted rate hikes by the median participant of the Committee. That being said, the number of committee members who expected a rate hike in 2023 increased from 4 to 5. The Fed’s long-run neutral rate of 2.5% was not changed.

Our View

• We expect the Fed to keep policy rates at the zero lower bound for the foreseeable future and continue their asset purchase program. With unemployment still significantly elevated versus pre-COVID levels, more action will be needed from both fiscal and monetary policy makers even as vaccine distribution begins this month.
• We expect the current pace of Quantitative Easing (QE) to continue throughout 2021 even as the economy recovers. However, if the economy deteriorates materially or inflation falters, the Fed will increase the aggregate amount of its purchases and/or extend the weighted average maturity of these purchases.
• We expect the 10-year U.S. Treasury yield to be around 1.00% - 1.25% by the spring or later in the second quarter of 2021.