In Brief

• The Federal Open Market Committee (FOMC) made no change to its key policy rates at its last meeting and voted to keep the target range for the federal funds rate at 5.00%-5.25%; this was the first “unchanged” outcome in 15 months.
  
  
• The Summary of Economic Projections (SEP/”dot plot”) showed that most participants now expect two additional hikes in 2023, placing the median projected policy rate at 5.625% for year-end 2023.
  
  
• The Federal Reserve (Fed) made no changes to its quantitative tightening (QT) program and no adjustments seem likely for reverse repurchase agreement (RRP) operations.
  
  
• Yields on Global Liquidity’s suite of USD money market mutual funds (MMFs) have adjusted quickly through this cycle and the funds remain positioned to capture further upside potential in short-term interest rates.

Rates left unchanged for now 

The FOMC kept the target range for the federal funds rate at 5.00%-5.25%. The interest rate on reserve balances (IORB) and the overnight reverse repurchase agreement (RRP) rate were also left unchanged at 5.15% and 5.05%, respectively. This was the first “unchanged” outcome for an FOMC meeting in 15 months. The voting decision on policy rates was unanimous.

Exhibit 1: After hiking rates at 10 consecutive meetings to a 16-year high, the Fed has paused

Source: J.P. Morgan Asset Management and Bloomberg; data as at 16 June 2023.

While the decision to hold rates steady was widely anticipated, the dot plot was a hawkish surprise, with two additional hikes added to the median expectation for year-end since the last SEP in March. So far, markets are not placing a high probability on that outcome, with less than one full hike priced in by the forward markets over the remainder of the year. The median dots now show the federal funds rate at 4.625% at the end of 2024 and 3.375% by the end of 2025.

Exhibit 2: While the Fed “dot plot” suggests two more rate hikes, markets are not placing a high probability on that outcome

Source: J.P. Morgan Asset Management and Bloomberg; data as at 16 June 2023.

Most of the language in the statement was unchanged, but the FOMC replaced “extent to which additional policy may be appropriate” with “the extent of additional policy firming that may be appropriate,” which would seem to indicate a lower threshold to move rates higher relative to the view at the May meeting.

Unemployment rate estimates in the SEP moved lower and growth estimates for the year were upgraded somewhat. Not surprisingly, SEP median estimates for core personal consumption expenditures (PCE) inflation were also revised higher for 2023.

Fed Chair Jay Powell and the FOMC are attempting to thread a monetary policy needle and ultimately felt it was prudent to slow the pace of tightening to better gauge the cumulative impact of 500 basis points of policy adjustments since March last year.  Lingering questions about the impact from banking sector volatility also gave the FOMC reason to be more deliberate going forward. And while still far from the desired 2% level, inflation has moved off its highs, giving the FOMC room to catch its breath for one meeting.

In his post-meeting press conference, Chair Powell was careful not to clearly define the lack of action as a “pause” or a “skip” and simply stressed that July’s FOMC meeting would be “live” and the Committee would act based on the data in hand at that point.

No adjustments to QT or the RRP

No adjustments were made to the QT program and no changes seem to be in the cards for the RRP, which has been the subject of considerable focus following the recent agreement to suspend the debt ceiling. Chair Powell even fielded a question on the RRP, noting that he did not believe it was placing undue pressure on bank deposits and expressing comfort that the RRP is serving its purpose as a tool of monetary policy implementation. 

In the weeks since the suspension of the debt ceiling, balances at the RRP have been declining. The decline seems to support the view that as the Treasury’s General Account (TGA) is replenished, MMFs will absorb the ramp-up in Treasury bill supply by reducing their RRP holdings in favor of T-bills. Indeed, balances at the RRP fell below USD 2 trillion on June 15 for the first time in over a year. MMF demand for T-bills could ebb with the more hawkish tone from the FOMC and a higher median dot in the SEP, but only time will tell.

Implications for investors

Yields on Global Liquidity’s suite of USD money market strategies have adjusted quickly through this cycle and the strategies remain positioned to capture further upside potential in short-term interest rates, even as the pace of tightening slows. While the ultimate peak in rates may still be ahead, the recent surge in Treasury bill issuance will present ample opportunity to extend duration profiles and position for the next leg in the interest rate cycle, when money market strategy yields historically lag declines in market rates. We expect our strategies will demonstrate their versatility as the interest rate environment changes.

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