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

The Federal Open Market Committee (FOMC) voted to raise the Fed Funds rate by 25bps to a target range of 0.25% – 0.50%. Effective immediately, the Committee also confirmed the end of the Quantitative Easing (QE) program that began in March 2020.

Committee Statement

• Economic Assessment – The economic assessment remained upbeat with the labor market strong. Inflation remains well above their target of 2%; beyond supply and demand pressures as well as energy costs they also noted this was due to broader price pressures.   

• Outlook – The paragraph on economic uncertainty relating to COVID-19 was completely removed and instead the focus turned to the more immediate concern of Russia’s invasion of Ukraine. The Fed views the implications as highly uncertain, but will likely contribute to additional upward pressure on inflation in the near term.

• Current Policy and Forward Guidance –
  • On the timing of future rate hikes, the Committee anticipates ongoing hikes will be appropriate. 
  • Balance sheet reduction will begin at “a coming meeting” but the details are yet to be determined.

Summary of Economic Projections:

Investors received FOMC participants’ revised outlooks for growth, inflation, employment, and policy rates expectations through 2024. Growth revised lower in 2022 by 1.2% but left unchanged in the out years; unemployment expectations were mostly unchanged as well. On inflation, expectations on core were again revised upward by 140bps in 2022 to 4.1%, 30bps in 2023 to 2.6% and 20bps in 2024 to 2.3%. The median of the committee continues to expect inflation above 2% throughout the forecast horizon. Additionally, all 16 participants who submitted forecasts now view the risks to their forecasts as being weighted to the upside – a new record high.

The dot plot gave us a refreshed indication of the Committee’s expectation for the pace of rate hikes. The median of the Committee now expects 10.5 rate hikes through 2024. The median of the Committee expects seven rate hikes in 2022, three and a half in 2023, and none in 2024. The Fed Funds rate is projected to end the forecast horizon at 2.75%, 37.5bps above the Fed’s long-run neutral rate of 2.375%. The long-run neutral rate declined from 2.5% with 2 less forecasters in attendance. 

Chair’s Press Conference:

At the press conference, Chair Powell communicated that the policy path would remain data dependent but every meeting is a “live” meeting. Given current levels of inflation and a strong labor market, the Chair viewed that on-going rate increases would be appropriate as well as balance sheet normalization at “a coming meeting”.

• Inflation: Chair Powell acknowledged that inflation poses hardship on consumers and that the best way to support the labor market is to have a long expansion of which price stability is necessary. He also recognized that inflation has become more broad based. He confirmed that that Committee is attentive to upside inflation risks, fully committed to adjusting policy to reduce inflation and resolute to avoid inflation becoming entrenched.

• Labor market: The Chairman believes the jobs market is “extremely tight”. Large wage increases and a high job openings are signs that labor market strength will persist.

• Rate Hikes: While future rate hikes would be data dependent, he expected on-going hikes would be appropriate. Chair Powell felt that the economy was extremely strong and would therefore “flourish” in the face of less accommodative policy.

• Balance Sheet: The Chairman indicated the FOMC has made good progress on the plan to shrink the balance sheet and that balance sheet normalization will being “at a coming meeting” as soon as May.

Our View:

• With shelter and wage inflation showing continued signs of persistent strength, inflation will likely remain far above the Fed’s mandate for many quarters. When it does moderate, it will likely be at levels that remain above 2% on Core PCE.

• Given the robust inflation and labor market backdrop, we believe the Fed will hike rates by at least 25bps at each of the next 7 meetings bringing the policy rate to 1.75 – 2% by YE2022.

• We also expect the Fed to begin balance sheet normalization in May barring an escalation in the war in Ukraine. We expect the Fed to set maximum reinvestment caps of 50bln Treasury and 30bln Agency MBS per month.

• U.S. Treasury yields should be biased higher as the Fed continues to remove policy accommodation against a backdrop of high inflation. We expect the 10-year U.S. Treasury yield to trade in a range of 2.00%–2.50%.

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